-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Cxaui7ffrNNpgTadbKvkK5hFLboMbjcIaXbt7DqpDhLBKditDsFQcegkdkEDl41I 8asKjnP/FRJbKvqyko2Qqg== 0001045969-98-000321.txt : 19980331 0001045969-98-000321.hdr.sgml : 19980331 ACCESSION NUMBER: 0001045969-98-000321 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980330 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: DIAMETRICS MEDICAL INC CENTRAL INDEX KEY: 0000895380 STANDARD INDUSTRIAL CLASSIFICATION: ELECTROMEDICAL & ELECTROTHERAPEUTIC APPARATUS [3845] IRS NUMBER: 411663185 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-21982 FILM NUMBER: 98579579 BUSINESS ADDRESS: STREET 1: 2658 PATTON RD CITY: ROSEVILLE STATE: MN ZIP: 55113 BUSINESS PHONE: 6126398035 MAIL ADDRESS: STREET 1: 2658 PATTON ROAD CITY: ROSEVILLE STATE: MN ZIP: 55113 10-K 1 FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 __________ FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 0-21982 DIAMETRICS MEDICAL, INC. (Exact name of registrant as specified in its charter) MINNESOTA 41-1663185 (State or other jurisdiction of (IRS Employer Identification Number) incorporation or organization) 2658 PATTON ROAD ROSEVILLE, MINNESOTA 55113 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (612) 639-8035 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 par value Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No _____ ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K ((S)229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this From 10-K or any amendment to this Form 10-K. [_] As of February 28, 1998, 20,896,570 shares of Common Stock were outstanding, and the aggregate market value of the common shares (based upon the closing price on said date on The Nasdaq National Market) of DIAMETRICS MEDICAL, INC. held by non-affiliates was approximately $138,544,000. DOCUMENTS INCORPORATED BY REFERENCE Parts of the Registrant's Annual Report to Shareholders for the year ended December 31, 1997 are incorporated by reference in Part II hereof Parts of the Registrant's definitive Proxy Statement for the 1998 Annual Meeting of Shareholders to be held on May 13, 1998 are incorporated by reference in Part III hereof PART I Unless the context otherwise indicates, all references to the "Registrant," the "Company," or "Diametrics" in this Annual Report on Form 10-K are to Diametrics Medical, Inc., a Minnesota corporation, incorporated in January 1990, and where the context requires, its subsidiary, Diametrics Medical, Ltd. (DML). The following federally registered trademarks of the Company are used in this Annual Report on Form 10-K: Diametrics Medical, Inc.(R), IRMA(R)SL, Neocath(R), Paratrend 7(R), Paratrend 7+/TM/, Neotrend/TM/ and Neurotrend/TM/. SureStep(R) Pro is a registered trademark of LifeScan, a Johnson & Johnson Company. ITEM 1. BUSINESS OVERVIEW The Company develops, manufactures and markets blood and tissue analysis systems that provide immediate or continuous diagnostic results at the point of patient care. Since its commencement of operations in 1990, the Company has transitioned from a development stage company to a full-scale development, manufacturing and sales organization. The Company's goal is to be the world leader in critical care blood and tissue analysis systems. Blood and tissue analysis is an integral part of patient diagnosis and treatment, and access to timely and accurate results is critical to effective patient care. The Company believes that its blood and tissue analysis systems will result in more timely therapeutic interventions by providing accurate, precise and immediate or continuous test results, thereby allowing faster patient transfers out of expensive critical care settings and reducing patient length of stay. In addition, point of care testing can save money for hospitals by reducing the numerous steps, paperwork and personnel involved in collecting, transporting, documenting and processing blood and tissue samples. Moreover, point of care blood and tissue analysis could ultimately eliminate the need for hospitals to maintain expensive and capital intensive stat laboratories. The Company's primary product focus since its inception in 1990 has been the development, manufacturing and marketing of the IRMA (Immediate Response Mobile Analysis) System, an electrochemical-based blood analysis system that provides rapid and accurate diagnostic results at the point of patient care. The IRMA SL System consists of a portable, microprocessor-based analyzer that employs single-use, disposable cartridges to perform simultaneously several of the most frequently ordered blood tests in a simple 90-second procedure. The Company's first disposable electrochemical cartridge, introduced in May 1994, performs three of the most frequently ordered blood tests for critical care patients--the measurement of oxygen, carbon dioxide and acidity (the "blood gases"). In June 1995, the Company expanded the IRMA System test menu with the introduction of its electrolyte cartridge which measures sodium, potassium and ionized calcium. The Company further expanded its critical or "stat" test menu during the third quarter of 1996 with the release of the second-generation system, IRMA SL, and the addition of the measurement of hematocrit to its electrolyte cartridge. With the addition of hematocrit, the IRMA SL System is able to perform 95% of the critical or stat tests performed annually in the United States, comprising an estimated $1.2 billion annual market. In 1997, the Company introduced its third-generation system, IRMA SL Series 2000, and a new combination testing cartridge. The combination cartridge is based upon the Company's new "snapfit" cartridge design and gives clinicians the ability to perform all critical blood gas, electrolyte and hematocrit tests using one small blood sample and one single-use cartridge. In the fourth quarter of 1996, the Company expanded its product line with the introduction of a number of new products through the acquisition of Biomedical Sensors, Ltd. (BSL), a Pfizer company. With the acquisition of BSL (now known as Diametrics Medical, Ltd.), the Company acquired a world-class continuous monitoring fiberoptic technology platform, which complements the Company's existing electrochemical sensor platform. This product line includes indwelling continuous blood monitoring systems, consisting of a monitor, calibration system and intravascular disposable sensors. Primary 2 products include Paratrend 7+ and Neotrend, further described below in the description of the Company's principal products. PRINCIPAL PRODUCTS IRMA SL SERIES 2000 BLOOD ANALYSIS SYSTEM. The IRMA SL Series 2000 ("IRMA SL System"), the third generation IRMA analysis system, was released in the third quarter 1997, and provides the necessary foundation for all current and future product enhancements. The IRMA SL System is comprised of the IRMA SL analyzer and a variety of electrochemical-based disposable cartridges which simultaneously perform select combinations of the most frequently ordered critical care diagnostic tests of blood gases, electrolytes and hematocrit in a simple 90-second procedure. The IRMA SL System also features electronic quality control, as an alternative to aqueous quality control measures, which eliminates the need for this costly and time-consuming process for many customers. The IRMA SL analyzer is a battery or AC operated, portable microprocessor-based instrument weighing approximately four pounds, and includes an on-board printer. The analyzer can be easily linked for data downloading purposes to a hospital's laboratory or information system. In conjunction with a marketing alliance reached in 1997 with LifeScan, a Johnson & Johnson company, the Company is incorporating blood glucose monitoring into the IRMA platform by integrating LifeScan's SureStep(R) Pro glucose module into the IRMA SL System. The Company expects to commercialize the new integrated workstation during the first half of 1998. IDMS - THE IRMA DATA MANAGEMENT SYSTEM. Released in the third quarter of 1996, IDMS, an advanced data management software program, provides a comprehensive data management system for point of care testing technologies. Developed initially for the IRMA SL System, IDMS is network compatible and features an open architecture design that allows the program to accept applications and information from other devices. CAPILLARY COLLECTION DEVICE. The Capillary Collection Device was introduced in the third quarter of 1996 as a new feature for use on the IRMA SL System, which provides the capability to collect and test a capillary blood sample. The Capillary Collection Device is used with the System's single use cartridges to perform blood gas, electrolyte, and hematocrit testing. The capillary collection capability of the IRMA SL System is useful in such patient areas as neonatal and pediatric intensive care, and in other situations where a capillary sample is preferred over an arterial or venous sample. AVOXIMETER 4000. Under a distribution agreement initiated in the third quarter of 1996 with A-VOX Systems, Inc., the Company exclusively distributes the AVOXimeter 4000 in the United States. The AVOXimeter 4000 is a battery- operated and easily portable system which provides an accurate and timely assessment of the levels of hemoglobin and calculated oxygen content in a patient's blood. NEOCATH 1000. Introduced as part of the Company's acquisition of BSL, Neocath 1000 is an umbilical artery oxygen monitoring system for neonatal patients. The Neocath 1000 consists of a monitoring system and an umbilical artery catheter, which allows direct, continuous and accurate measurement of oxygen, with minimal physical disturbance to the neonate. The Company began marketing the follow-on product to Neocath 1000, Neotrend, in the fourth quarter of 1997. PARATREND 7+. Paratrend 7+ is the Company's second generation sensor platform for its continuous monitoring products, and is the only multi-parameter sensor for direct continuous monitoring of blood gases and temperature in critically ill adult and pediatric patients. Inserted via an arterial catheter, the sensor provides constant, precise measurement of vital blood gas parameters. The new technology uses a fluorescent optical sensor for monitoring oxygen, replacing the electrochemical version of its predecessor, Paratrend 7. The Paratrend 7+ technology forms the basis for other new continuous monitoring products, including Neotrend. 3 NEOTREND. Based upon the new fluorescent optical sensor technology introduced with the Paratrend 7+, Neotrend is the only multi-parameter system for direct continuous monitoring of blood gases (oxygen, carbon dioxide and acidity) and temperature in critically ill premature babies. Neotrend is the Company's follow-on product to Neocath 1000. Neotrend was introduced in the United Kingdom in November 1997 and the Company received FDA clearance to market Neotrend in the United States in January 1998. REGULATORY STATUS Human diagnostic products are subject, prior to clearance for marketing, to rigorous pre-clinical and clinical testing mandated by the United States Food and Drug Administration (the "FDA") and comparable agencies in other countries and, to a lesser extent, by state regulatory authorities. The Company and its products are regulated by the FDA under a number of statutes including the Food, Drug and Cosmetic Act (the "FDC Act"). The FDC Act provides two basic review procedures for medical devices. Certain products may qualify for a submission authorized by Section 510(k) of the FDC Act, wherein the manufacturer gives the FDA a pre-market notification of the manufacturer's intention to commence marketing the product. The manufacturer must, among other things, establish that the product to be marketed is substantially equivalent to another legally marketed product. Marketing may commence when the FDA issues a letter finding substantial equivalence. If a medical device does not qualify for the 510(k) procedure, the manufacturer must file a pre-market approval ("PMA") application. This procedure requires more extensive prefiling testing than the 510(k) procedure and involves a significantly longer FDA review process. The Company has obtained clearances under Section 510(k) of the FDC Act to market the IRMA SL System to test blood gases, electrolytes and hematocrit in whole blood in hospital laboratories and at the point of care, and the Paratrend 7 to monitor blood gases and temperature. During 1997 additional Section 510(k) pre-market notification clearances were obtained for the addition of glucose testing capability to the IRMA SL System, and the expansion of the Paratrend 7 product line to include blood gas monitoring of critically ill neonates. The Neotrend product is the first and only multi-parameter system for direct continuous monitoring of blood gases and temperature in critically ill premature babies. The Company submitted additional pre-market notifications for the IRMA-M multi-use cartridge and the Neurotrend monitoring system in January 1998 that are currently under review by the FDA. The addition of a multi-use cartridge, IRMA-M, further enhances the IRMA SL System by allowing up to 50 separate test panels to be performed on a single cartridge before disposal. The Neurotrend monitoring system is designed for direct continuous monitoring for cerebral ischemia and hypoxia in patients with severe head injury and also for use during surgical intervention in the brain. Neurotrend continuously measures oxygen, carbon dioxide, acidity and temperature. A 510(k) clearance is subject to continual review, and later discovery of previously unknown problems may result in restrictions on the product's marketing or withdrawal of the product from the market. The Company's long-term business strategy includes development of cartridges and sensors for performing additional blood and tissue chemistry tests, and any such additional tests will be subject to the same regulatory process. No assurance can be given that the Company will be able to develop such additional products or uses on a timely basis, if at all, or that the necessary clearances for such products and uses will be obtained by the Company on a timely basis or at all, or that the Company will not be subjected to a more extensive prefiling testing and FDA approval process. The Company also plans to market its products in several foreign markets. Requirements vary widely from country to country, ranging from simple product registrations to detailed submissions such as those required by the FDA. Manufacturing facilities are also subject to FDA inspection on a periodic basis and the Company and its contract manufacturers must demonstrate compliance with current Good Manufacturing Practices ("GMP") promulgated by the FDA. The Company's product's are affected by the Clinical Laboratory Improvement Act of 1988 ("CLIA") which has been implemented by the FDA. This law is intended to assure the quality and 4 reliability of all medical testing in the United States regardless of where tests are performed. The regulations require laboratories performing blood chemistry tests to meet specified standards in the areas of personnel qualification, administration, participation in proficiency testing, patient test management, quality control, quality assurance and inspections. The regulations have established three levels of regulatory control based on test complexity - "waived", "moderate complexity" and "high complexity". The tests performed by the Company's IRMA SL System have been categorized under CLIA as "moderate complexity" tests by the FDA, which places this system in the same category as most other commercially available blood gas and blood chemistry testing instruments. RESEARCH AND DEVELOPMENT The Company owns two complementary technology platforms; an electrochemical platform, on which IRMA intermittent testing products are based, and a fiberoptic platform, on which the Paratrend 7 and Neotrend continuous monitoring products are primarily based. The Company is pursuing product line extensions from both of these core technology platforms. The Company intends to expand its cartridge and test menus available on the IRMA SL System. In conjunction with a marketing alliance with LifeScan, development has been completed to incorporate blood glucose monitoring on the IRMA SL platform by integrating LifeScan's SureStep(R) Pro glucose module into the IRMA SL System. Point of care glucose testing is the single largest point of care test segment in hospitals. Additionally, currently under development is a cartridge which tests sodium, potassium, ionized calcium, hematocrit, chloride and blood urea nitrogen (BUN) using one single-use cartridge. In addition to the single-use cartridge, the Company is developing a multi-use application that will incorporate the Company's current sensor and calibration technologies into products that can be used to perform up to 50 blood tests over a period of several days before disposal. A multi-use system will serve the needs of high volume critical care centers where rapid patient throughput and a low cost per test panel is required. The Company believes that the IRMA SL System and related core technologies provide a flexible platform which, with a limited amount of additional development, will be capable of performing a variety of blood chemistry tests. The Company plans to continually improve the IRMA SL System through software upgrades, manufacturing process improvements and equipment redesign, based on the results of ongoing marketing studies and field experience. The Company has completed a new multi-parameter application of the continuous monitoring technology for use with neonates, called Neotrend. This application provides the only continuous blood gas and temperature monitoring of neonatal patients and gives clinicians a more complete analysis of the respiratory status and temperature of their patients. Clinical studies have been initiated in the United Kingdom, and Section 510(k) clearance has been obtained in the United States. Studies are also underway to apply the continuous monitoring technology to other areas, including neurological applications. In February 1998, the Company filed a 510(k) application with the FDA for its Neurotrend monitoring system, designed for direct continuous monitoring for cerebral ischemia and hypoxia in patients with severe head injury and also for use during surgical intervention in the brain. The Company has incurred research and development expenses of approximately $7,232,000, $6,360,000 and $6,608,000 for the years ended December 31, 1997, 1996 and 1995, respectively. SALES AND MARKETING The Company is focusing its marketing efforts for its blood analysis systems on acute care hospitals. Near term sales of the Company's products are expected to continue to come from hospital critical care departments where blood tests are frequently requested on a stat basis. The Company has also begun to market the IRMA SL System for use in emergency transport vehicles. The Company's longer-term marketing objective is to penetrate smaller hospitals and alternate-site markets, such as emergency medical facilities, home healthcare agencies, outpatient clinics, skilled nursing homes and 5 doctors' offices or clinics. The Company believes that the potential advantages of its blood analysis systems will form the basis of the Company's marketing efforts to overcome the possible reluctance of acute care hospitals to change standard operating procedures for performing blood testing or incur additional capital expenses. The Company markets and distributes its products in the United States, the United Kingdom and Germany through its direct sales and marketing organization. Outside of these countries, the Company markets and distributes its products through third party distribution channels, including corporate partners strategically positioned to access targeted foreign markets, including Japan and other Pacific Rim Countries, Europe, Mexico, Canada, Latin America and South America. The Company may also consider additional distribution channels in the United States, including joint ventures, licensing arrangements or OEM relationships with strategically positioned corporate partners. Information concerning the Company's export sales is contained in the financial section of the Company's Annual Report to Shareholders for the year ended December 31, 1997, under Footnote 15, and is incorporated herein by reference. Additionally, the Company has entered into several arrangements with hospital systems, healthcare facilities and other influential healthcare buying groups which establish the Company as a preferred or sole source supplier of its blood analysis systems. The Company expects to continue to enter into arrangements with other buying groups and customers with respect to purchases of its blood analysis systems. MANUFACTURING The Company's manufacturing facilities support its intermittent testing and continuous monitoring platforms and are located in Roseville, Minnesota and High Wycombe, United Kingdom, respectively. The Company manufactures its IRMA electrochemical thick-film sensor chips in its Roseville, Minnesota facility. All other components of the IRMA cartridge are manufactured to the Company's specifications by outside vendors. Components for the Company's continuous monitoring sensors used in the Paratrend 7 and Neotrend products are sourced from a variety of outside vendors, but the unique assembly of the sensing elements is performed in the Company's High Wycombe facility. Sub-assembly of external plastic assemblies are sub-contracted to outside vendors. The Company uses external manufacturers to produce a range of hardware items, including the IRMA SL analyzer and Paratrend 7 and Neotrend monitors. During 1998, portions of the assembly of the IRMA SL analyzer and the continuous monitoring hardware will be performed internally at the Roseville and High Wycombe facilities, respectively. These devices could be manufactured by a number of microelectronics assembly companies, using primarily off-the-shelf components. Software for the IRMA SL analyzer is developed and maintained by the Company, and software for the continuous monitoring products is jointly developed with an external source, with acceptance and validation performed by the Company. The majority of the raw materials and purchased components used to manufacture the Company's products are readily available. Most of the Company's raw materials are or may be obtained from more than one source. A small number of these materials, however, are unique in their nature , and are therefore single sourced. Plans are ongoing to add additional second sourcing where appropriate. The Company's manufacturing facilities include four clean rooms in Roseville which range from Class 1,000 to Class 100,000, and two clean rooms in High Wycombe, both rated as Class 10,000. The Company believes its current facilities can support production of required cartridges and sensors for the foreseeable future. The Company maintains a comprehensive quality assurance and quality control program, which includes complete documentation of all material specifications, operating procedures, maintenance and equipment calibration procedures, training programs and quality control test methods. To control the quality of its finished product, the Company utilizes ongoing statistical process control systems during the manufacturing process and comprehensive performance testing of finished goods. The Company continues to successfully undergo required inspections of its manufacturing facilities by the FDA (most recently in February and March 1996 for Roseville and High Wycombe 6 facilities, respectively), and by the British Standards Institution for the High Wycombe facility (most recently in February 1996). As a result of these inspections, the Company's manufacturing facilities and documentation and quality control systems are deemed satisfactory and in compliance with Good Manufacturing Practices (GMP). PATENTS AND PROPRIETARY RIGHTS The Company has implemented a strategy of pursuing patent applications to provide both design freedom and protection from competitors. This strategy includes evaluating and seeking patent protection both for inventions most likely to be used in its blood analysis systems and for those inventions most likely to be used by others as competing alternatives. For its intermittent testing platform, the Company currently holds three patents to its calibration technology, two patents related to its sensor technology and one for companion technology. In addition, two patents have been issued covering the IRMA SL analyzer and disposable cartridge designs. The Company has received notice of allowance pertaining to patent applications pending in the United States relating to electronic quality control and its Capillary Collection Device. Additionally, the Company has submitted patent applications and provisional patent applications pertaining to a multi-use sensor module, an enzymatic sensor and coagulation measurement technology. Overseas, the Company has foreign patent applications pending, filed under the Patent Cooperation Treaty, designating various jurisdictions, including Canada, the major European countries, Brazil, Australia and Japan, corresponding to one or more U.S. applications. The Company has been issued nine foreign patents; two in the United Kingdom, two in Germany, two in Canada and three in Japan. As it relates to its continuous monitoring platform, the Company has been issued 21 U.S. patents associated with the design and manufacture of its sensor technology platforms. These patents are at various patent process stages in the major European countries and Japan. The Company is not currently a party to any patent litigation. The Company has federally registered the trademarks "IRMA SL", "Diametrics Medical, Inc.", "Neocath", "Paratrend", "Tissuetrak", "Paratrend 7+", "Neotrend", "Neurotrend", "CAL-POD", "TOM 2000" and claims trademark rights in "When Stat Isn't Fast Enough." COMPETITION The Company believes that potential purchasers of point of care blood analysis systems will base their purchase decision upon a combination of factors, including the product's test menu, ease of use, accuracy, price and ability to manage the data collected. The Company is aware of one company, i- STAT, that has introduced and is marketing a portable point of care blood analysis system. The Company believes that the IRMA SL System possesses distinct competitive advantages over i-STAT's products including ease of use, closed instead of open handling of blood samples and the ability to interface to the hospital's laboratory or information system. The Company also competes with companies that market portable multi-use blood gas systems. These companies include AVL Scientific Corporation, SenDx Medical, Inc. and Instrumentation Laboratories with their acquisition of the GEM Premier. However, the Company believes that to be successful in the point of care market, a company's device must be able to perform a variety of commonly ordered blood chemistry tests, as well as blood gas tests. The Company's blood analysis systems also compete with manufacturers providing traditional blood analysis systems to central and stat laboratories of hospitals. Although these laboratory-based instruments provide the same tests available with the Company's products, they are complex, expensive and require the use of skilled technicians. The Company believes that its blood analysis systems offer several advantages over these laboratory-based instruments including immediate or continuous results, ease-of-use, reduced opportunity for error and cost effectiveness. 7 Many of the companies in the medical technology industry have substantially greater capital resources, research and development staffs and facilities than the Company. Such entities may be developing or could in the future attempt to develop additional products competitive with the Company's blood analysis systems. Many of these companies also have substantially greater experience than the Company in research and development, obtaining regulatory approvals, manufacturing and marketing, and may therefore represent significant competition for the Company. There can be no assurance that the Company's competitors will not succeed in developing or marketing technologies and products that will be more effective or less expensive than those being marketed by the Company or that would render the Company's technology and products obsolete or noncompetitive. EXECUTIVE OFFICERS Name Age Position David T. Giddings 54 President, Chief Executive Officer and Chairman Roy S. Johnson 45 Executive Vice President President and Managing Director of Diametrics Medical, Ltd. Laurence L. Betterley 44 Senior Vice President and Chief Financial Officer James R. Miller 44 Senior Vice President of Sales and Marketing and Commercial Development Mr. Giddings was appointed Chairman of the Board of Directors, President and Chief Executive Officer of the Company in April 1996. Mr. Giddings was formerly President and Chief Operating Officer of the United States operations of Boehringer Mannheim Corporation ("BMC"), a global leader in diagnostics products. He joined BMC in 1992 after a 26 year career with Eastman Kodak Company, where he held a number of senior management positions, including General Manager and Vice President of Marketing and Sales, clinical products division. He also served as Vice President and General Manager of Kodak's imaging information system group and of its printing and publishing division. Mr. Johnson joined the Company in November 1996 as an Executive Vice President, and the President and Managing Director of Diametrics Medical, Ltd., ("DML"), a new subsidiary of the Company acquired in November 1996 with the purchase of Biomedical Sensors, Ltd. ("BSL"). DML markets a line of indwelling monitoring systems for continuous blood and tissue assessment of critically ill patients. Beginning in 1977, Mr. Johnson served in a number of management positions for the predecessors of the BSL business, most recently as President and Chief Executive Officer while it was a subsidiary of Orange Medical Instruments, Inc. and later when it was an operating unit of Pfizer Inc. Mr. Johnson started his career in 1974 with Burroughs Welcome in pharmaceutical production management and was the head of manufacturing in Burroughs' Sidney, Australia subsidiary. Mr. Betterley has been Senior Vice President of the Company since October 1996 and Chief Financial Officer since August 1996. Prior to this, he was with Cray Research, Inc. in various management and financial positions including Chief Financial Officer from 1994 to 1996, Vice President of Finance from 1993 to 1994 and Corporate Controller from 1989 to 1993. Cray Research develops, manufactures and sells high performance computing systems used for computational research. Mr. Miller joined the Company in March 1995 as Vice President of Sales and Marketing, was Senior Vice President of Commercial and Business Development since July 1996, and Senior Vice President 8 of Sales and Marketing and Commercial Development since January 1998. From 1991 to early 1995, Mr. Miller was Vice President of Sales and Marketing at IMED Corporation, where he had global sales and marketing responsibility for infusion and monitoring products for hospital and alternate site markets. EMPLOYEES As of December 31, 1997, the Company had a total of 181 full-time employees, including 48 persons engaged in research and development activities. None of the Company's employees are covered by a collective bargaining agreement, and Diametrics believes it maintains good relations with its employees. FORWARD-LOOKING STATEMENTS The above Business section and other parts of this Report contain forward-looking statements that involve risk and uncertainties. The Company's actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such a difference include, but are not limited to, those contained above in this Item 1, the "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 7 and Exhibit 99 to this Report. ITEM 2. PROPERTIES The Company's principal properties are as follows:
Location of Use of Approximate Lease Property Facility Square Footage Expiration Date - --------------- --------------------- ------------------ ----------------- Roseville, Minnesota Manufacturing, research 46,500 September 1999 and development, sales, to September 2001 marketing and administration Malvern, Pennsylvania Research and development 2,000 March 1999 High Wycombe, Manufacturing, process 14,500 September 2005 United Kingdom engineering, purchasing and distribution High Wycombe, Sales, marketing and 5,500 January 2015 United Kingdom administration High Wycombe, Research and development 6,000 April 1999 United Kingdom
The Company believes that its facilities are sufficient for its projected needs through 1999. ITEM 3. LEGAL PROCEEDINGS The Company is not a party to any material pending legal proceedings. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 9 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock, $.01 par value, trades on The Nasdaq National Market under the symbol "DMED." The information contained under the heading "Stock Information" in the Company's Annual Report to Shareholders for the year ended December 31, 1997 (the "Annual Report to Shareholders"), is incorporated herein by reference. ITEM 6. SELECTED FINANCIAL DATA The information contained under the heading "Selected Five-Year Financial Data" on page 12 in the Annual Report to Shareholders is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION The information contained under the heading "Management's Discussion and Analysis of Results of Operations and Financial Condition" on pages 13 through 16 in the Annual Report to Shareholders is incorporated herein by reference. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not applicable. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The information contained under the headings "Consolidated Statements of Operations", "Consolidated Balance Sheets," "Consolidated Statements of Shareholders' Equity," "Consolidated Statements of Cash Flows," "Notes to Consolidated Financial Statements" on pages 17 through 30 and "Report of Independent Auditors" on page 31 in the Annual Report to Shareholders is incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT DIRECTORS OF THE REGISTRANT The information contained under the heading "Election of Directors" in the Company's definitive Proxy Statement for its 1998 Annual Meeting of Shareholders to be held on May 13, 1998, which definitive Proxy Statement will be filed within 120 days after the close of the fiscal year ended December 31, 1997 (the "Proxy Statement"), is incorporated herein by reference. EXECUTIVE OFFICERS OF THE REGISTRANT See Part I of this report for information on Executive Officers of the Company. To the Company's knowledge, based solely on review of the copies of such reports furnished to the Company and written representation that no other reports were required, during the fiscal year ended December 31, 1997, all Section 16(a) filing requirements applicable to the officers, directors and greater than 10% beneficial owners were complied with, except that a statement of change in beneficial 10 ownership on Form 4 was not timely filed by Mr. Miller to reflect a grant of stock options in July of 1996, but such change was subsequently reported on Form 4. ITEM 11. EXECUTIVE COMPENSATION The information contained under the heading "Executive Compensation" in the Proxy Statement is incorporated herein by reference, except that, pursuant to Item 402(a)(8) of Regulation S-K, the subsections under "Executive Compensation" entitled "Report of Compensation Committee on Executive Compensation" and "Comparative Stock Performance" provided in response to paragraphs (k) and (l) of Item 402 are not incorporated by reference herein. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information contained under the heading "Security Ownership of Certain Beneficial Owners and Management" in the Proxy Statement is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information contained under the heading "Certain Transactions" in the Proxy Statement is incorporated by reference. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (A) 1. FINANCIAL STATEMENTS The following consolidated financial statements of Diametrics Medical, Inc., which are included in the Annual Report to Shareholders, are incorporated by reference in Item 8 hereof: Report of Independent Auditors Consolidated Statements of Operations for each of the years in the three year period ended December 31, 1997 Consolidated Balance Sheets at December 31, 1997 and 1996 Consolidated Statements of Shareholders' Equity for each of the years in the three year period ended December 31, 1997 Consolidated Statements of Cash Flows for each of the years in the three year period ended December 31, 1997 Notes to Consolidated Financial Statements Except for the financial statements listed above and the items specifically incorporated by reference in Items 5, 6, 7 and 8 hereof, the Annual Report to Shareholders is not deemed to be filed as part of this Annual Report on Form 10- K. 2. FINANCIAL STATEMENT SCHEDULES All schedules have been omitted because they are not applicable or not required, or because the required information is included in the financial statements or the notes thereto. 11 3. EXHIBITS
Exhibit No. Description Method of Filing - --- ----------- ---------------- 3.1 Articles of Incorporation of the Company (as amended) (8) 3.2 Bylaws of the Company (as amended) (7) 4.1 Form of Certificate for Common Stock (1) 4.2 Form of Registration Rights Agreement between the Company and certain of its shareholders and warrant holders (1) 4.3 Form of Registration Rights Agreement dated as of February 3, 1995 between the Company and certain of its shareholders (3) 4.4 Registration Rights Agreement, dated as of January 30, 1997, by and between the Company and purchasers of Series I Junior Participating Preferred Stock (6) 4.5 Registration Rights Agreement, dated as of June 10, 1997, by and between the Company and the Purchasers (9) 4.6 Form of Certificate for Series I Junior Participating Preferred Stock (6) 4.7 Form of Stock Purchase Warrant, dated as of January 30, 1997 (6) 4.8 Form of Stock Purchase Warrant, dated as of June 10, 1997 (9) 10.1 Real Property Lease dated May 3, 1990, between Commers- Klodt, a Minnesota General Partnership and the Company (1) 10.2 Real Property Lease dated May 28, 1991, between Commers- Klodt, a Minnesota General Partnership and the Company (1) 10.3 Real Property Lease dated July 2, 1991, between Commers- Klodt, a Minnesota General Partnership and the Company (1) 10.4 Real Property Lease dated December 20, 1992, between Commers- Klodt, a Minnesota General Partnership and the Company (1) 10.5 Real Property Lease dated May 10, 1993, between Commers- Klodt, a Minnesota General Partnership and the Company (1) 10.6 Master Lease Agreement dated November 11, 1992, between Bankers Leasing Association, Inc. and the Company (1) 10.7 Master Equipment Lease Agreement dated as of June 15, 1993, between the Company and The Northern Leasing Fund, as amended by Amendment No. 1 dated June 8, 1994 (including form of warrant issued in connection therewith) (1)
12 10.8 Master Equipment Lease Agreement dated as of June 15, 1993, between the Company and Phoenix Growth Capitol Corp., as amended by Amendment No. 1 dated June 8, 1994 (including form of warrant issued in connection therewith) (1) 10.9 Senior Secured Fixed Rate Loan Note, due November 4, 2002 between Pfizer Inc. and the Company (5) 10.10* 1990 Stock Option Plan (as amended and restated), including form of option agreement Filed herewith 10.11* 1993 Directors' Stock Option Plan, as amended and restated Filed herewith 10.12* 1995 Equalizing Director Stock Option Plan (4) 10.13 1995 Employee Stock Purchase Plan (as revised and restated) (7) 10.14 Agreement dated January 1, 1995 between the Company and Vencor, Inc. (3) 10.15 Settlement Agreement and Mutual General Releases dated March 25, 1994 among PPG Industries, Inc., the Company, Walter L. Sembrowich, David W. Deetz and Kee Van Sin (1) 10.16 Letter agreement dated as of February 1, 1995 among the Company, Allstate Venture Capital and Frazier and Company L.P. (2) 10.17 Agreement dated June 29, 1990 between the Company and David W. Deetz, as supplemented by the letter agreement dated March 28, 1995 (2) 10.18 Agreement dated June 29, 1990 between the Company and Walter L. Sembrowich, Ph.D. (2) 10.19 Agreement dated December 21, 1995 between the Company and Walter L. Sembrowich, Ph.D. (4) 10.20 Agreement dated March 1, 1996 between the Company and Barbara E. Roth (4) 10.21 Agreement dated April 12, 1996 between the Company and David T. Giddings (7) 10.22 Stock Purchase Agreement, dated as of January 30, 1997, between the Company and the Purchasers named therein (6) 10.23 Stock Purchase Agreement dated as of June 10, 1997, between the Company and the Purchasers named therein (9)
13 13 Portions of the Company's Annual Report to Shareholders for the year ended December 31, 1997 incorporated by reference in this Form 10-K Filed herewith 21 List of Subsidiaries Filed herewith 23 Consent of KPMG Peat Marwick LLP Filed herewith 24 Powers of Attorney (included in signature page of Report) Filed herewith 27 Financial Data Schedule (electronic filing only) Filed herewith 99 Cautionary Factors Under the Private Securities Litigation Reform Act Filed herewith
___________________ * Management compensatory plan filed pursuant to Item 601(b)(10)(iii)(A) of Regulation S-K. (1) Incorporated by reference to the Company's Registration Statement on Form S-1 (Registration Number 33-78518) (the "Registration Statement"). (2) Incorporated by reference to the Company's 1994 Annual Report on Form 10-K. (3) Incorporated by reference to the Company's Registration Statement on Form S-1 (Registration Number 33-94442). (4) Incorporated by reference to the Company's 1995 Annual Report on Form 10-K. (5) Incorporated by reference to the Company's Current Report on Form 8-K filed November 21, 1996. (6) Incorporated by reference to the Company's Current Report on Form 8-K filed March 25, 1997. (7) Incorporated by reference to the Company's 1996 Annual Report on Form 10-K. (8) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the Quarter ended March 31, 1997. (9) Incorporated by reference to the Company's Current Report on Form 8-K filed June 26, 1997. (B) REPORTS ON FORM 8-K No Current Reports on Form 8-K were filed by the Company during the fourth quarter of the year ended December 31, 1997. (c) See Item 14(a)(3) above. (d) None. 14 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on March 30, 1998. DIAMETRICS MEDICAL, INC. By ____________________________ David T. Giddings President, Chief Executive Officer and Chairman Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on March 30, 1998. KNOW ALL MEN BY THESE PRESENTS, that the undersigned do hereby constitute and appoint David T. Giddings and Laurence L. Betterley, and each of them, each with full power to act without the other, his true and lawful attorneys-in-fact and agents, each with full power of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities, to sign any and all amendments to the Annual Report on Form 10-K for the year ended December 31, 1997 of Diametrics Medical, Inc. , and to file the same, with any and all exhibits thereto, and all other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, full power and authority to do and perform each and every act and thing requisite and necessary to be done as fully to all intents and purposes as the undersigned might or could do in person, hereby ratifying and confirming all of each of said attorneys-in-fact and agents or any of them may lawfully do or cause to be done by virtue thereof. Name Title ---- ----- /s/ David T. Giddings President , Chief Executive Officer and - ------------------------------ David T. Giddings Chairman (Principal Executive Officer) /s/ Laurence L. Betterley Senior Vice President and Chief Financial - ------------------------------ Laurence L. Betterley Officer (Principal Financial Officer) /s/ Jill M. Nussbaum Corporate Controller - ------------------------------ Jill M. Nussbaum (Principal Accounting Officer) /s/ Gerald L. Cohn - ------------------------------ Gerald L. Cohn Director /s/ Andre' de Bruin - ------------------------------ Andre' de Bruin Director /s/ Roy S. Johnson - ------------------------------ Roy S. Johnson Director /s/ Mark B. Knudson - ------------------------------ Mark B. Kundson, Ph.D. Director /s/ Richard A. Norling - ------------------------------ Richard A. Norling Director EXHIBIT INDEX Exhibit No. Description - --- ----------- 10.10 1990 Stock Option Plan (as amended and restated), including form of option agreement 10.11 1993 Directors' Stock Option Plan, as amended and restated 13 Portions of the Company's Annual Report to Shareholders for the year ended December 31, 1997 incorporated by reference in this Form 10-K 21 List of Subsidiaries 23 Consent of KPMG Peat Marwick LLP 24 Power of Attorney (included in signature page of Report) 27 Financial Data Schedule (electronic filing only) 99 Cautionary Statements Under the Private Securities Litigation Reform Act EX-10.10 2 AMENDED AND RESTATED 1990 STOCK OPTION PLAN Exhibit 10.10 DIAMETRICS MEDICAL, INC. AMENDED AND RESTATED 1990 STOCK OPTION PLAN 1. Purpose of Plan. --------------- This Plan shall be known as the "DIAMETRICS MEDICAL, INC. 1990 STOCK OPTION PLAN" and is hereinafter referred to as the "Plan." The purpose of the Plan is to aid in maintaining and developing personnel capable of assuring the future success of Diametrics Medical, Inc., a Minnesota corporation (the "Company"), to offer such personnel additional incentives to put forth maximum efforts for the success of the business, and to afford them an opportunity to acquire a proprietary interest in the Company through stock options and other long-term incentive awards as provided herein. Options granted under this Plan may be either incentive stock options ("Incentive Stock Options") within the meaning of Section 422 of the Internal Revenue Code of 1986 (the "Code"), or options which do not qualify as Incentive Stock Options. Awards granted under this Plan shall be SARs, restricted stock or performance awards as hereinafter described. 2. Stock Subject to Plan. --------------------- Subject to the provisions of Section 15 hereof, the stock to be subject to options or other awards under the Plan shall be the Company's authorized but unissued shares of Common Stock, par value $.01 per share. Such shares may be either authorized but unissued shares, or issued shares which have been reacquired by the Company. Subject to adjustment as provided in Section 15 hereof, the maximum number of shares on which options may be exercised or other awards issued under this Plan shall be 3,000,000 shares. If an option or award under the Plan expires, or for any reason is terminated or unexercised with respect to any shares, such shares shall again be available for options or awards thereafter granted during the term of the Plan. 3. Administration of Plan. ---------------------- (a) The Plan shall be administered by a committee (the "Committee") of two or more members of the Board of Directors of the Company, none of whom shall be officers or employees of the Company and all of whom shall be "disinterested persons" with respect to the Plan within the meaning of Rule 16b-3 under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), or any successor rule or regulation thereto. The members of any such committee shall be appointed by and serve at the pleasure of the Board of Directors. (b) The Committee shall have plenary authority in its discretion, but subject to the express provisions of the Plan: (i) to determine the purchase price of the Common Stock covered by each option or award, (ii) to determine the employees to whom and the time or times at which such options and awards shall be granted and the number of shares to be subject to each, (iii) to determine the form of payment to be made upon the exercise of an SAR or in connection with performance awards, either cash, Common Stock of the Company or a combination thereof, (iv) to determine the terms of exercise of each option and award, (v) to accelerate the time at which all or any part of an option or award may be exercised, (vi) to amend or modify the terms of any option or award with the consent of the optionee, (vii) to interpret the Plan, (viii) to prescribe, amend and rescind rules and regulations relating to the Plan, (ix) to determine the terms and provisions of each option and award agreement under the Plan (which agreements need not be identical), including the designation of those options intended to be Incentive Stock Options, and (x) to make all other determinations necessary or advisable for the administration of the Plan, subject to the exclusive authority of the Board of Directors under Section 16 herein to amend or terminate the Plan. (c) The Committee shall select one of its members as its Chairman and shall hold its meetings at such times and places as it may determine. A majority of its members shall constitute a quorum, provided that if the Committee is comprised of no more than two members, all of its members must be present to constitute a quorum. All determinations of the Committee shall be made by not less than a majority of its members, provided that if the Committee is comprised of no more than two members, such determinations may not be made by less than all of its members. Any decision or determination reduced to writing and signed by all of the members of the Committee shall be fully effective as if it had been made by a majority vote at a meeting duly called and held. The grant of an option or award shall be effective only if a written agreement shall have been duly executed and delivered by and on behalf of the Company following such grant. The Committee may appoint a Secretary and may make such rules and regulations for the conduct of business as it shall deem advisable. (d) The Chief Executive Officer of the Company shall have the authority, as granted by the Committee pursuant to clause (ix) of subsection (b) of this Section 3, to grant, pursuant to the Plan, options or other awards to eligible persons who are not considered by the Company as its officers or directors for purposes of Section 16 of the Securities Exchange Act of 1934, as amended. The Chief Executive Officer of the Company shall provide information as to any grants made pursuant to this subsection to the Committee at their next meeting. 4. Eligibility. ----------- Incentive Stock Options may only be granted under this Plan to any full or part-time employee (which term as used herein includes, but is not limited to, officers and directors who are also employees) of the Company and of its present and future subsidiary corporations within the meaning of Section 424(f) of the Code -2- (herein called "subsidiaries"). Full or part-time employees, consultants or independent contractors to the Company or one of its subsidiaries shall be eligible to receive options which do not qualify as Incentive Stock Options and awards. In determining the persons to whom options and awards shall be granted and the number of shares subject to each, the Committee may take into account the nature of services rendered by the respective employees or consultant their present and potential contributions to the success of the Company and such other factors as the Committee in its discretion shall deem relevant. A person who has been granted an option or award under this Plan may be granted additional options or awards under the Plan if the Committee shall so determine; provided, however, that for Incentive Stock Options granted after December 31, 1986, to the extent the aggregate fair market value (determined at the time the Incentive Stock Option is granted) of the Common Stock with respect to which all Incentive Stock Options are exercisable for the first time by an employee during any calendar year (under all plans described in subsection (d) of Section 422 of the Code of his employer corporation and its parent and subsidiary corporations) exceeds $100,000, such options shall be treated as options which do not qualify as Incentive Stock Options. Nothing in the Plan or in any agreement thereunder shall confer on any employee any right to continue in the employ of the Company or any of its subsidiaries or affect, in any way, the right of the Company or any of its subsidiaries to terminate his or her employment at any time. 5. Price. ----- The option price for all Incentive Stock Options granted under the Plan shall be determined by the Committee but shall not be less than 100% of the fair market value of the Common Stock at the date of grant of such option. The option price for options granted under the Plan which do not qualify as Incentive Stock Options and, if applicable, the price for all awards shall also be determined by the Committee. For purposes of the preceding sentence and for all other valuation purposes under the Plan, the fair market value of shares of Common Stock shall be (i) the closing price of the Common Stock as reported for composite transactions if the Common Stock is then traded on a national securities exchange, (ii) the last sale price if the Common Stock is then quoted on the NASDAQ National Market System, or (iii) the average of the closing representative bid and asked prices of the Common Stock as reported on NASDAQ on the date as of which the fair market value is being determined. If on the date of grant of any option or award hereunder the Common Stock is not traded on an established securities market, the Committee shall make a good faith attempt to satisfy the requirements of this Section 5 and in connection therewith shall take such action as it deems necessary or advisable. -3- 6. Term. ---- Each option and award and all rights and obligations thereunder shall expire on the date determined by the Committee and specified in the option or award agreement. The Committee shall be under no duty to provide terms of like duration for options or awards granted under the Plan, but the term of an Incentive Stock Option may not extend more than ten (10) years from the date of grant of such option and the term of options granted under the Plan which do not qualify as Incentive Stock Options may not extend more than fifteen (15) years from the date of granting of such option. 7. Exercise of Option or Award. --------------------------- (a) The Committee shall have full and complete authority to determine whether an option or award will be exercisable in full at any time or from time to time during the term thereof, or to provide for the exercise thereof in such installments, upon the occurrence of such events (such as termination of employment for any reason) and at such times during the term of the option as the Committee may determine and specify in the option or award agreement. (b) The exercise of any option or award granted hereunder shall only be effective at such time that the sale of Common Stock pursuant to such exercise will not violate any state or federal securities or other laws. Only to the extent required in order to comply with Rule 16b-3 under the Exchange Act, in the case of an option or other award granted to a person considered by the Company as one of its officers or directors for purposes of Section 16 of the Exchange Act, the terms of the option or other award will require that such shares are not disposed of by such officer or director for a period of at least six months from the date of grant. (c) An optionee or grantee electing to exercise an option or award shall give written notice to the Company of such election and of the number of shares subject to such exercise. The full purchase price of such shares shall be tendered with such notice of exercise. Payment shall he made to the Company in cash (including bank check, certified check, personal check, or money order), or, at the discretion of the Committee and as specified by the Committee, (i) by delivering certificates for the Company's Common Stock already owned by the optionee or grantee having a fair market value as of the date of grant equal to the full purchase price of the shares, or (ii) by delivering the optionee's or grantee's promissory note, which shall provide for interest at a rate not less than the minimum rate required to avoid the imputation of income, original issue discount or a below-market-rate loan pursuant to Sections 483, 1274 or 7872 of the Code or any successor provisions thereto, or (iii) a combination of cash, the optionee's or grantee promissory note and such shares. The fair market value of such tendered shares shall be determined as provided in Section 5 herein. The optionee's or grantee's promissory note shall be a -4- full recourse liability of the optionee and may, at the discretion of the Committee, be secured by a pledge of the shares being purchased. Until such person has been issued the shares subject to such exercise, he or she shall possess no rights as a shareholder with respect to such shares. 8. Stock Appreciation Rights. ------------------------- (a) Grant. At the time of grant of an option or award under the Plan ----- (or at any other time), the Committee, in its discretion, may grant a Stock Appreciation Right ("SAR") evidenced by an agreement in such form as the Committee shall from time to time approve. Any such SAR may be subject to restrictions on the exercise thereof as may be set forth in the agreement representing such SAR, which agreement shall comply with and be subject to the following terms and conditions and any additional terms and conditions established by the Committee that are consistent with the terms of the Plan. (b) Exercise. An SAR shall be exercised by the delivery to the -------- Company of a written notice which shall state that the holder thereof elects to exercise his or her SAR as to the number of shares specified in the notice and which shall further state what portion, if any, of the SAR exercise amount (hereinafter defined) the holder thereof requests be paid to in cash and what portion, if any, is to be paid in Common Stock of the Company. The Committee promptly shall cause to be paid to such holder the SAR exercise amount either in cash, in Common Stock of the Company, or any combination of cash and shares as the Committee may determine. Such determination may be either in accordance with the request made by the holder of the SAR or in the sole and absolute discretion of the Committee. The SAR exercise amount is the excess of the fair market value of one share of the Company's Common Stock on the date of exercise over the per share exercise price in respect of which the SAR was granted, multiplied by the number of shares as to which the SAR is exercised. For the purposes hereof, the fair market value of the Company's shares of Common Stock shall be determined as provided in Section 5 herein. 9. Restricted Stock Awards. ----------------------- Awards of Common Stock subject to forfeiture and transfer restrictions may be granted by the Committee. Any restricted stock award shall be evidenced by an agreement in such form as the Committee shall from time to time approve, which agreement shall comply with and be subject to the following terms and conditions and any additional terms and conditions established by the Committee that are consistent with the terms of the Plan: (a) Grant of Restricted Stock Awards. Each restricted stock award made --------------------------------- under the Plan shall be for such number of shares of Common Stock as shall -5- be determined by the Committee and set forth in the agreement containing the terms of such restricted stock award. Such agreement shall set forth a period of time during which the grantee must remain in the continuous employment of the Company in order for the forfeiture and transfer restrictions to lapse. If the Committee so determines, the restrictions may lapse during such restricted period in installments with respect to specified portions of the shares covered by the restricted stock award. The agreement may also, in the discretion of the Committee, set forth performance or other conditions that will subject the Common Stock to forfeiture and transfer restrictions. The Committee may, at its discretion, waive all or any part of the restrictions applicable to any or all outstanding restricted stock awards. (b) Delivery of Common Stock and Restrictions. At the time of a ----------------------------------------- restricted stock award, a certificate representing the number of shares of Common Stock awarded thereunder shall be registered in the name of the grantee. Such certificate shall be held by the Company or any custodian appointed by the Company for the account of the grantee subject to the terms and conditions of the Plan, and shall bear such a legend setting forth the restrictions imposed thereon as the Committee, in its discretion, may determine. The grantee shall have all rights of a shareholder with respect to the Common Stock, including the right to receive dividends and the right to vote such shares, subject to the following restrictions: (i) the grantee shall not be entitled to delivery of the stock certificate until the expiration of the restricted period and the fulfillment of any other restrictive conditions set forth in the restricted stock agreement with respect to such Common Stock; (ii) none of the shares of Common Stock may be sold, assigned, transferred, pledged, hypothecated or otherwise encumbered or disposed of during such restricted period or until after the fulfillment of any such other restrictive conditions; and (iii) except as otherwise determined by the Committee, all of the Common Stock shall be forfeited and all rights of the grantee to such Common Stock shall terminate, without further obligation on the part of the Company, unless the grantee remains in the continuous employment of the Company for the entire restricted period in relation to which such shares of Common Stock were granted and unless any other restrictive conditions relating to the restricted stock award are met. Any Common Stock, any other securities of the Company and any other property (except for cash dividends) distributed with respect to the Common Stock subject to restricted stock awards shall be subject to the same restrictions, terms and conditions as such restricted Common Stock. (c) Termination of Restrictions. At the end of the restricted period --------------------------- and provided that any other restrictive conditions of the restricted stock award are met, or at such earlier time as otherwise determined by the Committee, all restrictions set forth in the agreement relating to the restricted stock award or in the Plan shall lapse as to the restricted Common Stock subject thereto, and a stock certificate for the appropriate number of shares of Common Stock, free of the -6- restrictions and the restricted stock legend, shall be delivered to the grantee or his beneficiary or estate, as the case may be. 10. Performance Awards. ------------------ The Committee is further authorized to grant performance awards ("Performance Award"). Subject to the terms of this Plan and any applicable award agreement, Performance Awards granted under the Plan (i) may be denominated or payable in cash, Common Stock (including, without limitation, restricted stock), other securities, other awards, or other property and (ii) shall confer on the holder thereof rights valued as determined by the Committee, in its discretion, and payable to, or exercisable by, the holder of the Performance Awards, in whole or in part, upon the achievement of such performance goals during such performance periods as the Committee, in its discretion, shall establish. Subject to the terms of this Plan and any applicable award agreement, the performance goals to be achieved during any performance period, the length of any performance period, the amount of any Performance Awards granted, and the amount of any payment or transfer to be made by the grantee and by the Company under any Performance Awards shall be determined by the Committee. 11. Income Tax Withholding and Tax Bonuses. -------------------------------------- (a) In order to comply with all applicable federal or state income tax laws or regulations, the Company may take such action as it deems appropriate to ensure that all applicable federal or state payroll, withholding, income or other taxes, which are the sole and absolute responsibility of an optionee or grantee under the Plan, are withheld or collected from such optionee or grantee. In order to assist an optionee or grantee in paying all federal and state taxes to be withheld or collected upon exercise of an option or award which does not qualify as an Incentive Stock Option hereunder, the Committee, in its absolute discretion and subject to such additional terms and conditions as it may adopt, shall permit the optionee or grantee to satisfy such tax obligation by (i) electing to have the Company withhold a portion of the shares otherwise to be delivered upon exercise of such option or award with a fair market value, determined in accordance with Section 5 herein, equal to such taxes or (ii) delivering to the Company Common Stock other than the shares issuable upon exercise of such option or award with a fair market value, determined in accordance with Section 5, equal to such taxes. (b) The Committee shall have the authority, at the time of grant of an option under the Plan or at any time thereafter, to approve tax bonuses to designated optionees or grantees to be paid upon their exercise of options or awards granted hereunder. The amount of any such payments shall be determined by the Committee. The Committee shall have full authority in its absolute discretion to -7- determine the amount of any such tax bonus and the terms and conditions affecting the vesting and payment thereafter. 12. Additional Restrictions. ----------------------- The Committee shall have full and complete authority to determine whether all or any part of the Common Stock of the Company acquired upon exercise of any of the options or awards granted under the Plan shall be subject to restrictions on the transferability thereof or any other restrictions affecting in any manner the optionee's or grantee's rights with respect thereto, but any such restriction shall be contained in the agreement relating to such options or awards. 13. Ten Percent Shareholder Rule. ---------------------------- Notwithstanding any other provision in the Plan, if at the time an option is otherwise to be granted pursuant to the Plan the optionee owns directly or indirectly (within the meaning of Section 424(d) of the Code) Common Stock of the Company possessing more than ten percent (10%) of the total combined voting power of all classes of stock of the Company or its parent or subsidiary corporations, if any (within the meaning of Section 422(b)(6) of the Code), then any Incentive Stock Option to be granted to such optionee pursuant to the Plan shall satisfy the requirements of Section 422(c)(5) of the Code, and the option price shall be not less than 110% of the fair market value of the Common Stock of the Company determined as described herein, and such option by its terms shall not be exercisable after the expiration of five (5) years from the date such option is granted. 14. Non-Transferability. ------------------- No option may be sold, pledged, assigned, hypothecated, transferred, or disposed of in any manner other than (i) by will or by the laws of descent or distribution, or (ii) in the case of options that are not Incentive Stock Options, to members of the optionee's immediate family or to one or more trusts for the benefit of the optionee or members of his or her immediate family, and the option may be exercised, during the lifetime of the Optionee, only by the optionee or a permitted transferee. 15. Dilution or Other Adjustments. ----------------------------- If there shall be any change in the Common Stock through merger, consolidation, reorganization, recapitalization, dividend in the form of stock (of whatever amount), stock split or other change in the corporate structure, appropriate adjustments in the Plan and outstanding options and awards shall be made by the Committee. In the event of any such changes, adjustments shall include, where appropriate, changes in the aggregate number of shares subject to the -8- Plan, the number of shares and the price per share subject to outstanding options and awards and the amount payable upon exercise of outstanding awards, in order to prevent dilution or enlargement of option or award rights. 16. Amendment or Discontinuance of Plan. ----------------------------------- The Board of Directors may amend or discontinue the Plan at any time. Subject to the provisions of Section 15 no amendment of the Plan, however, shall without shareholder approval: (i) increase the maximum number of shares under the Plan as provided in Section 2 herein, (ii) decrease the minimum price provided in Section 5 herein, (iii) extend the maximum term under Section 6, or (iv) modify the eligibility requirements for participation in the Plan. The Board of Directors shall not alter or impair any option or award theretofore granted under the Plan without the consent of the holder of the option. 17. Time of Granting. ---------------- Nothing contained in the Plan or in any resolution adopted or to be adopted by the Board of Directors or by the shareholders of the Company, and no action taken by the Committee or the Board of Directors (other than the execution and delivery of an option or award agreement), shall constitute the granting of an option or award hereunder. 18. Effective Date and Termination of Plan. -------------------------------------- (a) The Plan was approved by the Board of Directors on June 29, 1990 and shall be approved by the shareholders of the Company within twelve (12) months thereof. (b) Unless the Plan shall have been discontinued as provided in Section 16 hereof, the Plan shall terminate June 29, 2005. No option or award may be granted after such termination, but termination of the Plan shall not, without the consent of the optionee or grantee, alter or impair any rights or obligations under any option or award theretofore granted. -9- EX-10.11 3 AMENDED AND RESTATED 1993 DIRECTORS' STOCK OPTION Exhibit 10.11 DIAMETRICS MEDICAL, INC. AMENDED AND RESTATED 1993 DIRECTORS' STOCK OPTION PLAN 1. Purpose of the Plan. The purpose of this Diametrics Medical, Inc. ------------------- 1993 Directors' Stock Option Plan is to attract and retain the best available individuals for service as Directors of the Company and provide additional incentive to the Outside Directors of the Company to serve as Directors. None of the options granted hereunder shall be "incentive stock options" within the meaning of Section 422 of the Code (as hereinafter defined). 2. Definitions. As used herein, the following definitions shall apply: ----------- (a) "Board" shall mean the Board of Directors of the Company. ----- (b) "Code" shall mean the Internal Revenue Code of 1986, as amended. ---- (c) "Common Stock" shall mean the Common Stock of the Company. ------------ (d) "Company" shall mean Diametrics Medical, Inc., a Minnesota ------- corporation. (e) "Continuous Status as a Director" shall mean the absence of any ------------------------------- interruption or termination of service as a Director. (f) "Director" shall mean a member of the Board. -------- (g) "Employee" shall mean any person, including officers and -------- Directors, employed by the Company or any parent or Subsidiary of the Company. The payment of a Director's fee by the Company shall not be sufficient in and of itself to constitute "employment" by the Company. (h) "Exchange Act" shall mean the Securities Exchange Act of 1934, as ------------ amended. (i) "Option" shall mean a stock option granted pursuant to the Plan. ------ (j) "Option Value" shall mean, with respect to an option described in ------------ Section 4(b)(iv) of the Plan, the value of such option determined on the date of grant using the same methodology as was used by the Company's independent public accountants to value stock options for the purposes of the Company's most recent annual audited financial statements. (k) "Optioned Stock" shall mean the Common Stock subject to an -------------- Option. (l) "Optionee" shall mean an Outside Director who receives an Option. -------- (m) "Outside Director" shall mean a Director who is not an Employee. ---------------- (n) "Parent" shall mean a "parent corporation," whether now or ------ hereafter existing, as defined in Section 425(e) of the Code. (o) "Plan" shall mean this 1993 Directors' Stock Option Plan. ---- (p) "Shares" shall mean shares of the Common Stock, as adjusted in ------ accordance with Section 11 of the Plan. (q) "Subsidiary" shall mean a "subsidiary corporation," whether now ---------- or hereafter existing, as defined in Section 425(f) of the Code. 3. Stock Subject to the Plan. Subject to the provisions of Section 10 of ------------------------- the Plan, the maximum aggregate number of Shares which may be optioned and sold under the Plan is 217,500 Shares of Common Stock. The Shares may be authorized, but unissued, or reacquired Common Stock. If an Option should expire or become unexercisable for any reason without having been exercised in full, the unpurchased Shares which were subject thereto shall, unless the Plan shall have been terminated, become available for future grant under the Plan. If Shares which were acquired upon exercise of an Option are subsequently repurchased by the Company, such Shares shall not in any event be returned to the Plan and shall not become available for future grant under the Plan. 4. Administration of and Grants of Options under the Plan. ------------------------------------------------------ (a) Administrator. Except as otherwise required herein, the Plan ------------- shall be administered by the Board. (b) Procedure for Grants. The provisions set forth in this Section -------------------- 4(b) shall not be amended more than once every six months, other than to comport with changes in the Code, the Employee Retirement Income Security Act of 1974, as -2- amended, or the rules thereunder. All grants of Options hereunder shall be made in accordance with the following provisions: (i) The Board shall have discretion to grant options to Outside Directors in addition to the Options described in Sections 4(b)(ii), (iii) and (iv) and to determine the number of Shares to be covered by such Options. (ii) Effective August 14, 1997, each Outside Director shall be automatically granted an Option (an "Initial Grant") to purchase 18,000 Shares on the date on which such person first becomes a Director, whether through election by the shareholders of the Company or appointment by the Board of Directors to fill a vacancy. Options granted under this section 4(b)(ii) shall become vested and thereby exercisable with respect to 50% of such Initial Grant on the twelve month anniversary date of such Initial Grant and with respect to 25% at each successive anniversary date; provided, however, an unvested portion of an Initial Grant shall only vest so long as the Outside Director remains a Director on the date such portion vests. (iii) Effective August 14, 1997, each Outside Director shall automatically receive, on the date of each Annual Meeting of Shareholders, an Option to purchase 8,000 Shares of the Company's Common Stock, such Option to become exercisable six months subsequent to the date of grant; provided however, that such Option shall only be granted to Outside -------- Directors who have served since the date of the last Annual Meeting of Shareholders and will continue to serve after the date of grant of such Option. (iv) Each Outside Director may elect, not later than the last day of the Company's fiscal year, to be granted Options in lieu of the compensation and fees otherwise payable to such Outside Director for the next fiscal year. Such Options shall be granted quarterly on the last day of each fiscal quarter in which such compensation and fees are earned, to be exercisable immediately. The number of Shares covered by each such Option shall be the number determined by dividing the total amount of compensation and fees payable at the end of such quarter by the Option Value of one such Share on the date of grant. (v) The terms of an Option granted hereunder shall be as follows: (A) the term of the Option shall be ten (10) years. -3- (B) the Option shall be exercisable only while the Outside Director remains a Director of the Company, except as set forth in Section 8 hereof. (C) the exercise price per Share shall be 100% of the fair value per Share on the date of grant of the Option. (D) to the extent necessary to comply with the applicable provisions of Rule 16b-3 promulgated under the Exchange Act ("Rule 16b-3"), no Option will be exercisable until a date more than six months subsequent to the date of the grant of that Option. (c) Powers of the Board. Subject to the provisions and restrictions ------------------- of the Plan, the Board shall have the authority, in its discretion: (i) to determine, upon review of relevant information and in accordance with Section 7(b) of the Plan, the fair market value of the Common Stock; (ii) to determine the exercise price per share of Options to be granted, which exercise price shall be determined in accordance with Section 7(a) of the Plan; (iii) to interpret the Plan; (iv) to prescribe, amend and rescind rules and regulations relating to the Plan; (v) to authorize any person to execute on behalf of the Company any instrument required to effectuate the grant of an Option previously granted hereunder; and (vi) to make all other determinations deemed necessary or advisable for the administration of the Plan. (d) Effect of Board's Decision. All decisions, determinations and -------------------------- interpretations of the Board shall be final and binding on all Optionees and any other holders of any Options granted under the Plan. 5. Eligibility. Options may be granted only to Outside Directors. All ----------- Options shall be automatically granted in accordance with the terms set forth in Section 4(b) hereof. The Plan shall not confer upon any Optionee any right with respect to continuation of service as a Director or nomination to serve as a Director, nor shall it interfere in any way with any rights which the Director or the Company may have to terminate his directorship at any time. 6. Term of Plan. The Plan shall become effective upon the earlier of (i) ------------ its adoption by the Board or (ii) its approval by the shareholders of the Company as described in Section 16 of the Plan. It shall continue in effect for a term of ten (10) years unless sooner terminated under Section 12 of the Plan. -4- 7. Exercise Price and Consideration. -------------------------------- (a) Exercise Price. The per Share exercise price for the Shares to -------------- be issued pursuant to exercise of an Option shall be 100% of the fair market value per Share on the date of grant of the Option. (b) Fair Market Value. The fair market value ("Fair Market Value") ----------------- of a Share shall be determined by the Board in its discretion; provided however, -------- that where there is a public market for the Common Stock, the fair market value per Share shall be the closing price of the Common Stock in the over-the-counter market on the date of grant, as reported in The Wall Street Journal (or, if not ----------------------- so reported, as otherwise reported by the National Association of Securities Dealers Automated Quotation ("NASDAQ") System) or, in the event the Common Stock is traded on the NASDAQ National Market System or listed on a stock exchange, the fair market value per Share shall be the closing price on such system or exchange on the date of grant of the Option, as reported in The Wall Street --------------- Journal. - ------- (c) Form of Consideration. Subject to compliance with applicable --------------------- provisions of Section 16(b) of the Exchange Act, (or other applicable law), the consideration to be paid for the Shares to be issued upon exercise of an Option, including the method of payment, shall be determined by the Board and may consist entirely of (i) cash, (ii) check, (iii) other Shares which (X) in the case of Shares acquired upon exercise of an Option, have been owned by the Optionee for more than six months on the date of surrender, and (Y) have a Fair Market Value on the date of exercise equal to the aggregate exercise price of the Shares as to which said Option shall be exercised, (iv) authorization for the Company to retain from the total number of Shares as to which the Option is exercised that number of Shares having a Fair Market Value on the date of exercise equal to the exercise price for the total number of Shares as to which the Option is exercised, (v) delivery of a properly executed exercise notice together with irrevocable instructions to a broker to promptly deliver to the Company the amount of sale or loan proceeds required to pay the exercise price, (vi) by delivering an irrevocable subscription agreement for the Shares which irrevocably obligates the option holder to take and pay for the Shares not more than twelve months after the date of delivery of the subscription agreement, (vii) any combination of the foregoing methods of payment or (viii) such other consideration and method of payment for the issuance of Shares as may be permitted under applicable laws. In making its determination as to the type of consideration to accept, the Board shall consider whether acceptance of such consideration may be reasonably expected to benefit the Company. 8. Exercise of Option. ------------------- (a) Procedure for Exercise; Rights as a Shareholder. Any Option ----------------------------------------------- granted hereunder shall be exercisable at such times as are set forth in Section 4(b) -5- hereof; provided however, that no Options shall be exercisable until shareholder -------- approval of the Plan in accordance with Section 16 hereof has been obtained. An Option may not be exercised for a fraction of a Share. An Option shall be deemed to be exercised when written notice of such exercise has been given to the Company in accordance with the terms of the Option by the person entitled to exercise the Option and full payment for the Shares with respect to which the Option is exercised has been received by the Company. Full payment may consist of any consideration and method of payment allowable under Section 7(c) of the Plan. Until the issuance (as evidenced by the appropriate entry on the books of the Company or of a duly authorized transfer agent of the Company) of the stock certificate evidencing such Shares, no right to vote or receive dividends or any other rights as a shareholder shall exist with respect to the Optioned Stock, notwithstanding the exercise of the Option. A share certificate for the number of Shares so acquired shall be issued to the Optionee as soon as practicable after exercise of the Option. No adjustment will be made for a dividend or other right for which the record date is prior to the date the stock certificate is issued, except as provided in Section 10 of the Plan. Exercise of an Option in any manner shall result in a decrease in the number of Shares which thereafter may be available, both for purposes of the Plan and for sale under the Option, by the number of Shares as to which the Option is exercised. (b) Termination of Status as a Director. If an Outside Director ----------------------------------- ceases to serve as a Director, he may, but only within seven (7) months after the date he ceases to be a Director of the Company, exercise his Option to the extent that he was entitled to exercise it at the date of such termination. To the extent that he was not entitled to exercise an Option at the date of such termination, or if he does not exercise such Option (which he was entitled to exercise) within the time specified herein, the Option shall terminate. (c) Disability of Optionee. Notwithstanding the provisions of ---------------------- Section 8(b) above, in the event an Optionee is unable to continue his service as a Director with the Company as a result of his total and permanent disability (as defined in Section 22(e)(3) of the Code) he may, but only within seven (7) months from the date of termination, exercise his Option to the extent he was entitled to exercise it at the date of such termination. To the extent that he was not entitled to exercise the Option at the date of termination, or if he does not exercise such Option (which he was entitled to exercise) within the time specified herein, the Option shall terminate. (d) Death of Optionee. Notwithstanding the provisions of Section ----------------- 4(b), in the event of the death of an Optionee: -6- (i) during the term of the Option who is at the time of his death a Director of the Company and who has been in Continuous Status as a Director since the date of grant of the Option, the Option may be exercised, at any time within seven (7) months following the date of death, by the Optionee's estate or by a person who acquired the right to exercise the Option by bequest or inheritance, but only to the extent of the right to exercise that would have accrued had the Optionee continued living and remained in Continuous Status as a Director for six (6) months after the date of death; or (ii) within thirty (30) days after the termination of Continuous Status as a Director, the Option may be exercised, at any time within seven (7) months following the date of death, by the Optionee's estate or by a person who acquired the right to exercise the Option by bequest or inheritance, but only to the extent of the right to exercise that had accrued at the date of termination. 9. Non-Transferability of Options. The Option may not be sold, pledged, ------------------------------ assigned, hypothecated, transferred, or disposed of in any manner other than (i) by will, (ii) by the laws of descent or distribution, (iii) to members of the Optionee's immediate family or (iv) to one or more trusts for the benefit of the Optionee or members of his or her immediate family, and the Option may be exercised, during the lifetime of the Optionee, only by the Optionee or a permitted transferee. 10. Adjustments Upon Changes in Capitalization, Dissolution or Merger. ----------------------------------------------------------------- (a) In the event that the number of outstanding shares of Common Stock of the Company is changed by a stock dividend, stock split, reverse stock split, combination, reclassification or similar change in the capital structure of the Company without consideration, the number of Shares available under this Plan and the number of Shares subject to outstanding Options and the exercise price per share of such Options shall be proportionately adjusted, subject to any required action by the Board or shareholders of the Company and compliance with applicable securities laws; provided however, that no certificate or scrip -------- representing fractional shares shall be issued upon exercise of any Option and any resulting fractions of a Share shall be ignored. Such adjustment shall be made by the Board, whose determination in that respect shall be final, binding and conclusive. (b) In the event of a dissolution or liquidation of the Company, a merger in which the Company is not the surviving corporation, a transaction or series of related transactions in which 100% of the then outstanding voting stock is sold or otherwise transferred, or the sale of substantially all of the assets of the Company, any or all outstanding Options shall, notwithstanding any contrary terms of the written agreement governing such Option, accelerate -7- and become exercisable in full at least ten days prior to (and shall expire on) the consummation of such dissolution, liquidation, merger or sale of stock or sale of assets on such conditions as the Board shall determine unless the successor corporation assumes the outstanding Options or substitutes substantially equivalent options. 11. Time of Granting Options. The date of grant of an Option shall, for ------------------------ all purposes, be the date determined in accordance with Section 4(b) hereof. Notice of the determination shall be given to each Outside Director to whom an Option is so granted within a reasonable time after the date of such grant. 12. Amendment and Termination of the Plan. ------------------------------------- (a) Amendment and Termination. The Board may at any time amend, ------------------------- alter, suspend, or discontinue the Plan, but no amendment, alteration, suspension, or discontinuance shall be made which would impair the rights of any Optionee under any grant theretofore made, without his or her consent. In addition, to the extent necessary and desirable to comply with Rule 16b-3 under the Exchange Act (or any other applicable law or regulation), the Company shall obtain shareholder approval of any Plan amendment in such a manner and to such a degree as required. (b) Effect of Amendment or Termination. Any such amendment or ---------------------------------- termination of the Plan shall not affect Options already granted and such Options shall remain in full force and effect as if this Plan had not been amended or terminated, unless mutually agreed otherwise between the Optionee and the Board, which agreement must be in writing and signed by the Optionee and the Company. 13. Conditions Upon Issuance of Shares. Shares shall not be issued ---------------------------------- pursuant to the exercise of an Option unless the exercise of such Option and the issuance and delivery of such Shares pursuant thereto shall comply with all relevant provisions of law, including, without limitation, the Securities Act of 1933, as amended, the Exchange Act, the rules and regulations promulgated thereunder, state securities laws, and the requirements of any stock exchange upon which the Shares may then be listed, and shall be further subject to the approval of counsel for the Company with respect to such compliance. As a condition to the exercise of an Option, the Company may require the person exercising such Option to represent and warrant at the time of any such exercise that the Shares are being purchased only for investment and without any present intention to sell or distribute such Shares, if, in the opinion of counsel for the Company, such a representation is required by any of the aforementioned relevant provisions of law. -8- Inability of the Company to obtain authority from any regulatory body having jurisdiction, which authority is deemed by the Company's counsel to be necessary to the lawful issuance and sale of any Shares hereunder, shall relieve the Company of any liability in respect of the failure to issue or sell such Shares as to which such requisite authority shall not have been obtained. 14. Reservation of Shares. The Company, during the term of this Plan, --------------------- will at all times reserve and keep available such number of the Shares available for issuance pursuant to this Plan as shall be sufficient to satisfy the requirements of the Plan. 15. Option Agreement. Options shall be evidenced by written option ---------------- agreements in such form as the Board shall approve. 16. Shareholder Approval. -------------------- (a) The Plan shall be subject to approval by the shareholders of the Company within twelve (12) months of its adoption by the Board. If such shareholder approval is obtained at a duly held shareholders' meeting, it may be obtained by the affirmative vote of the holders of a majority of the outstanding shares of the Company present or represented and entitled to vote thereon. If such shareholder approval is obtained by written consent, it may be obtained by the written consent of the holders of a majority of the outstanding shares of the Company. (b) Any required approval of the shareholders of the Company shall be substantially in accordance with Section 14(a) of the Exchange Act and the rules and regulations promulgated thereunder. 17. Information to Optionees. The Company shall provide to each Optionee, ------------------------ during the period for which such Optionee has one or more Options outstanding, copies of all annual reports to shareholders, proxy statements and other information provided to all shareholders of the Company. -9- EX-13 4 PORTIONS OF COMPANY'S ANNUAL REPORT EXHIBIT 13
SELECTED FIVE-YEAR FINANCIAL DATA (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS) YEARS ENDED DECEMBER 31, --------------------------------------------------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 Statement of Operations Data: Net sales $ 10,434 3,797 1,607 331 - Operating loss (20,510) (23,782) (23,387) (12,733) (8,201) Net loss (21,037) (23,575) (23,046) (12,455) (13,819) Net loss per share (1), (2), (3) (1.13) (1.56) (1.82) (1.49) (2.05) Weighted average shares outstanding (1), (2) 18,665,837 15,088,493 12,640,212 8,341,021 6,729,636 Balance Sheet Data: Working capital (deficit) $ 12,509 $ 6,649 $ 27,123 $ 7,413 $ (106) Total assets 28,662 24,059 36,620 17,393 10,151 Long-term liabilities 8,599 8,582 1,851 1,759 1,502 Shareholders' equity (deficit) 13,143 8,674 31,194 11,157 (20,805)
(1) The Company has not paid any dividends since inception. (2) Net loss per share and weighted average shares outstanding for 1993 are presented on a pro forma basis and reflect the impact of the conversion of all Preferred Shares outstanding at the time of the Company's initial public offering in June 1994, retroactively as of the date of issuance of the Preferred Shares. Also, pursuant to the Securities and Exchange Commission regulations, all Common, Redeemable Common and Redeemable Convertible Preferred Shares issued and options and warrants granted by the Company during the 12-month period preceding the initial filing date of the June 1994 public offering have been included in the pro forma calculation of weighted average common and common equivalent shares outstanding as if they were outstanding for all of 1993 using the treasury stock method and the initial public offering price of $6 per share. (3) Basic and diluted loss per share amounts are identical as the effect of potential common shares is antidilutive. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION SUMMARY Diametrics Medical, Inc., which began operations in 1990, is engaged in the development, manufacturing and marketing of critical care blood and tissue analysis systems which provide immediate or continuous diagnostic results at the point of patient care. Since its commencement of operations in 1990, the Company has transitioned from a development stage company to a full-scale development, manufacturing and sales organization. As of December 31, 1997, the primary funding for the operations of the Company has been approximately $114 million raised through public and private sales of its equity securities and issuance of convertible promissory notes, all of which have been repaid or converted into common stock. During 1997, several significant events occurred which impacted 1997 operating results and will continue to impact operating results in the future. These events were highlighted by the introduction and enhancement of key new products, continued market penetration of the Company's products and the successful integration and expanded commercialization of the continuous monitoring business, purchased from Pfizer Inc. in November 1996. Key among the Company's new product introductions in 1997 was the launch of a new combination testing cartridge for the IRMA SL Blood Analysis System. The combination cartridge is based upon the Company's new "snapfit" cartridge design and gives clinicians the ability to perform all critical blood gas, electrolyte and hematocrit tests using one small blood sample on one single-use cartridge. The addition of this cartridge extends the system's application to all critical care areas in the hospital including the operating room. The new "snapfit" cartridge design is smaller than its predecessor and facilitates automated assembly, which reduces labor cost, while increasing yields and plant capacity, all contributing to lower unit product costs and improved margins. Another major product and marketing breakthrough in 1997 was the completion of an agreement with LifeScan, a Johnson & Johnson company, to incorporate blood glucose monitoring into the IRMA SL System by integrating LifeScan's SureStep(R) Pro glucose module into the system. The Company expects to commercialize the new integrated workstation during the first half of 1998. Diametrics and LifeScan are also collaborating on worldwide sales and marketing efforts. Fundamental to the expanded commercialization of the continuous monitoring business was the Company's receipt of FDA clearance to market its second generation sensor platform for continuous monitoring products. The Paratrend 7+ is the only multi-parameter sensor for direct continuous monitoring of blood gases in critically ill adult and pediatric patients. The new technology utilizes a fluorescent optical sensor for monitoring oxygen, replacing the electrochemical version of its predecessor. The new technology platform has lower material costs and requires less manufacturing labor, resulting in lower unit costs. The Paratrend 7+ technology forms the basis for other new continuous monitoring products, including Neotrend. Neotrend is designed specifically to provide continuous monitoring of blood gases and temperature in critically ill premature babies. Neotrend was introduced in the United Kingdom in November 1997 and the Company received FDA clearance to market Neotrend in the United States in January 1998. Additionally, the Company continued to expand global marketing and distribution partnerships during the year, including the initiation of a co-marketing agreement with Marquette Medical Systems, Inc., and the expansion of its distribution agreement with Chiron Diagnostics to include selected markets in the Far East and southern Europe. Chiron is also a distribution partner for the Company's Paratrend 7 system in Japan. The co-marketing agreement with Marquette enables Marquette's U.S. sales force to quote and sell the IRMA SL Blood Analysis System as part of Marquette's monitoring solutions portfolio. The co-marketing effort is an outgrowth of a strategic alliance between the two companies, initiated to develop an interface that links the benefits of the IRMA SL Blood Analysis System to Marquette's Unity Monitoring Network(R). The interface will transfer IRMA test information immediately into Marquette's bedside monitor or clinical information system thus creating a comprehensive, real-time patient record. As previously noted, in November 1996, the Company acquired all the outstanding capital stock of Biomedical Sensors, Ltd. (BSL), an operating unit of Pfizer Inc., and certain assets from Howmedica, Inc., a wholly owned subsidiary of Pfizer Inc. The combined operations of these former Pfizer entities are collectively referred to below as "Biomedical Sensors". Based in England, the new subsidiary, Diametrics Medical, Ltd. (DML), brings a product line which includes indwelling continuous blood monitoring systems utilizing a fiber optic technology platform. Primary products include Paratrend 7, Paratrend 7+ and Neotrend, described above. Each of these products consists of a monitoring system and intravascular disposable sensors. RESULTS OF OPERATIONS SALES Sales of the Company's products were $10,434,366 for 1997, compared to $3,796,816 for 1996 and $1,607,375 in 1995. 1997 revenues reflect the first full year of sales from the operations of the Company's subsidiary, DML. Compared to pro forma combined Diametrics' and Biomedical Sensors' sales for the year ended December 31, 1996, sales increased approximately 50% in 1997. The Company's revenues are affected principally by the number of instruments, both monitors and IRMA analyzers, placed with customers and the rate at which disposable sensors and cartridges are used in connection with these products. From inception through December 31, 1997, the Company has sold over 2,200 instruments. Compared to pro forma combined Diametrics' and Biomedical Sensors' unit sales for 1996, unit sales of instruments in 1997 increased approximately 40%, while disposable sensor and cartridge unit sales increased approximately 80%. The Company has targeted 1998 revenue growth in excess of 50% relative to 1997 as a result of further planned expansion of the blood and tissue analysis product lines and continued market penetration of existing products. COST OF SALES Cost of sales totaled $11,666,142 for 1997, compared to $9,860,259 for 1996 and $8,703,859 for 1995. Included in cost of sales for 1995 was a charge of approximately $1.3 million associated with the write- down of inventory to the lower of cost or market as a result of product obsolescence and unfavorable manufacturing variances. Cost of sales as a percentage of revenue was 112% in 1997, 260% in 1996 and 460% in 1995 (without the impact of the 1995 charge). On a pro forma combined basis of Diametrics' and Biomedical Sensors' operations for 1995 and 1996, cost of sales as a percentage of revenue was 281% and 208%, respectively. The significant year-to-year improvement in the Company's cost of sales as a percentage of revenue reflects increased sensor and cartridge volumes, improved manufacturing yields, increased shelf life of cartridges and the impact of cost controls and manufacturing process changes. These improvements resulted in the Company's first positive quarterly gross margin in the fourth quarter of 1997. The Company is targeting a positive gross margin for the full year in 1998, as a result of new product introductions and continued reductions in unit product costs, stemming from increased sales volumes and further expected improvements in manufacturing yields, processes and costs. OPERATING EXPENSES Total operating expenses for 1997 increased $1.6 million or 9% compared to 1996, as a result of the inclusion of a full year of expenses for the operations of the Company's subsidiary, DML. Compared to pro forma combined Diametrics' and Biomedical Sensors' operating expenses for 1996, pre-restructuring operating expenses decreased 18% in 1997 as a result of work force reductions and cost and process improvements implemented during the year. Operating expenses increased by $1.4 million or 9% from 1995 to 1996, due primarily to restructuring and other charges incurred during 1996 and the inclusion of approximately one month of expenses for the operations of DML. Research and development expenses increased $872,000 or 14% from 1996 to 1997, after an increase of $249,000 or 4% from 1995 to 1996. The increase in expense in 1996 reflects the inclusion of one month of expenses for the operations of DML. Compared to pro forma combined Diametrics' and Biomedical Sensors' research and development expenses for 1996, expenses decreased 22% in 1997 as a result of work force reductions, primarily in the Company's U.S. operations, and cost and process improvements implemented during the year. Sales and marketing expenses totaled $7,893,284 in 1997, compared to $6,781,943 in 1996 and $5,801,363 in 1995. The 17% increase in expenses from 1995 to 1996 reflects costs to support the expansion of the Company's direct sales force in the U.S., higher commissions on increased sales and the inclusion of DML expenses from the date of acquisition. Compared to pro forma combined Diametrics' and Biomedical Sensors' sales and marketing expenses for 1996, expenses decreased 15% in 1997 due to organizational efficiencies and better deployment of resources. General and administrative expenses totaled $3,689,036 in 1997, compared to $3,242,320 in 1996 and $3,488,874 in 1995. The 7% reduction in expenses from 1995 to 1996 primarily reflects the impact of work force reductions in the Company's U.S. operations in the last half of 1996, partially offset by the inclusion of DML expenses from the date of acquisition. Compared to pro forma combined Diametrics' and Biomedical Sensors' general and administrative expenses for 1996, expenses decreased 16% in 1997 as a result of additional work force reductions, primarily in the Company's U.S. operations, and cost improvements implemented during the year. Restructuring and other charges totaled $463,816 in 1997, compared to $1,334,661 in 1996 and $391,834 in 1995. Charges in 1995 reflect severance costs associated with a management reorganization in late 1995. Charges in 1996 consist of approximately $584,000 for severance costs related to continued restructuring of the management team in early 1996 and a work force reduction, $464,000 for the write-off of purchased in-process research and development created from the Biomedical Sensors acquisition, and $287,000 for the write-down of excess and obsolete equipment, resulting from the work force reductions and process changes. Charges in 1997 consist of severance costs associated with work force reductions, primarily in the Company's U.S. manufacturing, research and development and general and administrative areas, and $145,000 for the write-down of excess and obsolete equipment resulting from the work force reductions and further process changes. OTHER INCOME (EXPENSE) Net other expense in 1997 was $526,962, compared to net other income of $207,117 in 1996 and $340,587 in 1995. The Company realized interest income of $658,625 in 1997, compared to $929,603 in 1996 and $1,148,352 in 1995. The year-to-year decline reflects the impact of lower average cash balances in 1996 and 1997 as a result of the Company's higher level of financing activities during 1994 and 1995, and also due to a net use of cash in operations. Interest expense totaled $1,017,657 in 1997, compared to $607,342 in 1996 and $550,607 in 1995. The year-to-year increase primarily reflects interest accrued on a long-term note payable to Pfizer Inc. issued in connection with the Company's acquisition of Biomedical Sensors in November 1996. NET LOSS Net loss for the year ended December 31, 1997 was $21,036,543, compared to $23,575,094 in 1996 and $23,046,314 in 1995. Compared to pro forma combined Diametrics' and Biomedical Sensors' net loss for the year ended December 31, 1996, the net loss decreased 35% in 1997, before the impact of restructuring and other charges. The company is targeting continued improvement in the 1998 net loss relative to 1997. LIQUIDITY AND CAPITAL RESOURCES At December 31, 1997, the Company had working capital of approximately $12.5 million, an increase of $5.9 million from the working capital of $6.6 million reported at December 31, 1996. The increase is primarily the result of the receipt of proceeds of approximately $26 million from the issuance of common stock from two private equity placements, warrant exercises and employee stock option and stock purchase plans, partially offset by capital purchases, debt payments and the net use of cash in operations during 1997. Through December 31, 1997, the Company raised approximately $114 million through the public and private sales of its equity securities and the issuance of convertible promissory notes, all of which have been repaid or converted into common stock. At December 31, 1997, the Company had property and equipment of $18,060,127, up from $16,295,952 at December 31, 1996, less accumulated depreciation of $10,674,155 and $8,008,200 at December 31, 1997 and 1996, respectively. The $1.8 million net increase in the cost of property and equipment is primarily the result of $3.0 million of capital additions, consisting primarily of investments in development and production equipment, and instruments for internal use in R&D and sales. Since its inception in 1990, the Company has financed approximately $5 million of capital additions through capital lease obligations. In 1998, the company expects capital expenditures and new lease commitments to approximate $2.4 million, primarily reflecting investments to support new product development and production. In late 1996 and throughout 1997, the Company entered into long-term debt obligations of approximately $8.9 million. The debt consists of a $7.3 million senior secured fixed rate loan note issued to Pfizer in connection with the Company's acquisition of Biomedical Sensors and approximately $1,558,000 in notes payable for equipment financing. The company's long- term debt and capital lease obligations require principal and interest repayments of approximately $1.9 million in 1998, $1.1 million in each of years 1999, 2000 and 2001, and $8.1 million in 2002. At December 31, 1997, the Company had U.S. net operating loss and research and development tax credit carryforwards for income tax purposes of approximately $91,000,000 and $900,000, respectively. Pursuant to the Tax Reform Act of 1986, use of the Company's net operating loss carryforwards are limited due to a "change in ownership." (See footnote 12 for further discussion and amount of limitation). The Company believes that currently available funds and cash generated from 1998 revenues, supplemented by proceeds from employee stock plans, warrant exercises and asset based credit, will meet the Company's working capital needs through 1998. If results of operations or capital requirements vary materially from those currently planned, the company could require additional capital at an earlier time. As a result, the company has and will continue to evaluate raising additional capital through, but not limited to, alliances with strategic corporate partners and sales of equity or debt securities. While there can be no assurance that adequate funds will be available when needed or on acceptable terms, management believes that the company will be able to raise adequate funding as needed. the Company's long-term capital requirements will depend upon numerous factors, including the rate of market acceptance of the Company's products and the level of resources devoted to expanding the sales and marketing organization, manufacturing capabilities and research and development activities. YEAR 2000 COMPLIANCE The financial impact to the Company of year 2000 compliance has not been and is not expected to be material to the Company's financial position or results of operations in any given year. The Company's existing information system, consisting of hardware and software supplied by third parties, is year 2000 compliant. However, because most computer systems are by their nature, interdependent, it is possible that non-compliant third party computers could "reinfect" the Company's computer systems. The Company could be adversely affected by the year 2000 problem if it or unrelated parties fail to successfully address this problem. The Company intends to develop a plan to communicate with the unrelated parties, including its regulatory consultants with whom it deals, to coordinate year 2000 compliance. The costs incurred in addressing year 2000 compliance will be expensed as incurred, in compliance with GAAP. Statements regarding the Company's expectations about new and existing products, future financial performance and other forward looking statements are subject to various risks and uncertainties, including, without limitation, demand and acceptance of new and existing products, technological advances and product obsolescence, competitive factors and the availability of capital to finance growth. These and other risks are discussed in greater detail as an exhibit in the Company's Form 10-k filing with the U.S. Securities and Exchange Commission.
CONSOLIDATED STATEMENTS OF OPERATIONS Years ended December 31, ----------------------------------------------------- DIAMETRICS MEDICAL, INC. AND SUBSIDIARY 1997 1996 1995 - ----------------------------------------------------------------------------------------------------- Net sales $ 10,434,366 $ 3,796,816 $ 1,607,375 Cost of sales 11,666,142 9,860,259 8,703,859 ------------------------------------------------------ Gross profit (loss) (1,231,776) (6,063,443) (7,096,484) Operating expenses: Research and development 7,231,669 6,359,844 6,608,346 Sales and marketing 7,893,284 6,781,943 5,801,363 General and administrative 3,689,036 3,242,320 3,488,874 Restructuring and other charges 463,816 1,334,661 391,834 ------------------------------------------------------ 19,277,805 17,718,768 16,290,417 ------------------------------------------------------ Operating loss (20,509,581) (23,782,211) (23,386,901) Interest income 658,625 929,603 1,148,352 Interest expense (1,017,657) (607,342) (550,607) Other expense, net (167,930) (115,144) (257,158) ------------------------------------------------------ Net loss $ (21,036,543) $ (23,575,094) $ (23,046,314) ------------------------------------------------------ Basic and diluted net loss per common share ($1.13) ($1.56) ($1.82) ------------------------------------------------------ Weighted average common shares outstanding 18,665,837 15,088,493 12,640,212 ------------------------------------------------------
The accompanying notes are an integral part of these consolidated financial statements.
CONSOLIDATED BALANCE SHEETS December 31, -------------------------------- DIAMETRICS MEDICAL, INC. AND SUBSIDIARY 1997 1996 - ------------------------------------------------------------------------------------------------------------ ASSETS CURRENT ASSETS: Cash and cash equivalents $ 3,358,684 $ 2,451,993 Marketable securities 8,401,642 3,402,598 Accounts receivable: Trade, net of allowance for doubtful accounts of $188,599 in 1997 and $110,000 in 1996 3,653,196 2,033,496 Nontrade 115,332 556,272 Inventories 3,588,218 4,464,099 Prepaid expenses and other current assets 311,173 543,755 -------------------------------- Total current assets 19,428,245 13,452,213 -------------------------------- PROPERTY AND EQUIPMENT 18,060,127 16,295,952 Less accumulated depreciation and amortization (10,674,155) (8,008,200) -------------------------------- 7,385,972 8,287,752 -------------------------------- OTHER ASSETS 1,847,316 2,318,674 -------------------------------- $ 28,661,533 $ 24,058,639 ================================ LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable $ 2,261,822 $ 1,612,390 Accrued expenses 3,687,597 3,848,248 Short-term note payable - 31,934 Current portion of long-term liabilities 969,950 1,310,154 -------------------------------- Total current liabilities 6,919,369 6,802,726 -------------------------------- LONG-TERM LIABILITIES: Long-term obligations, excluding current portion 8,477,821 7,795,851 Capital lease obligations, excluding current portion 59,921 666,668 Other liabilities, excluding current portion 61,372 119,155 -------------------------------- Total liabilities 15,518,483 15,384,400 -------------------------------- SHAREHOLDERS' EQUITY: Preferred stock, $.01 par value: 5,000,000 shares authorized, none issued - - Common stock, $.01 par value: 35,000,000 shares authorized, 20,889,945 and 15,209,481 shares issued and outstanding on December 31, 1997 and 1996, respectively 208,899 152,095 Additional paid-in capital 113,970,247 88,451,972 Cumulative translation adjustment 19,584 89,309 Accumulated deficit (101,055,680) (80,019,137) -------------------------------- Total shareholders' equity 13,143,050 8,674,239 -------------------------------- Commitments and contingencies (notes 7, 8, 16, and 17) $ 28,661,533 $ 24,058,639 ================================
The accompanying notes are an integral part of these consolidated financial statements. Consolidated Statements of Shareholders' Equity
Additional Cumulative Total Preferred stock Common Stock paid-in Accumulated translation shareholders' ------------------------------------------- DIAMETRICS MEDICAL, INC. Shares Amount Shares Amount capital deficit adjustment equity AND SUBSIDIARY - ------------------------------------------------------------------------------------------------------------------------------------ BALANCE, DECEMBER 31, 1994 - $ - 9,586,976 $ 95,870 $ 44,458,635 $ (33,397,729) $ - $11,156,776 Issued common stock on February 3, 1995 - - 1,754,635 17,546 8,631,244 - - 8,648,790 Issued common stock on August 3 and 10, 1995 - - 3,450,000 34,500 33,746,032 - - 33,780,532 Issued common stock under employee stock purchase plan - - 34,760 347 192,855 - - 193,202 Issued common stock in lieu of salaries and wages - - 38,900 389 337,224 - - 337,613 Exercise of options to common stock - - 33,124 331 115,091 - - 115,422 Exercise of warrants to common stock - - 1,746 18 8,311 - - 8,329 Net loss - - - - - (23,046,314) - (23,046,314) ------------------------------------------------------------------------------------------------------ BALANCE, DECEMBER 31, 1995 - - 14,900,141 149,001 87,489,392 (56,444,043) - 31,194,350 Issued common stock under employee stock purchase plan - - 74,096 741 300,140 - - 300,881 Exercise of options to common stock - - 235,244 2,353 662,440 - - 664,793 Change in cumulative translation adjustment - - - - - - 89,309 89,309 Net loss - - - - - (23,575,094) - (23,575,094) ------------------------------------------------------------------------------------------------------ BALANCE, DECEMBER 31, 1996 - - 15,209,481 152,095 88,451,972 (80,019,137) 89,309 8,674,239 Issued preferred stock on January 30, 1997 750,000 7,500 - - 11,857,799 - - 11,865,299 Conversion of preferred stock to common stock on April 10, 1997 (750,000) (7,500) 3,000,000 30,000 (22,500) - - - Issued common stock on June 10, 1997 - - 1,493,332 14,933 7,840,236 - - 7,855,169 Issued common stock under employee stock purchase plan - - 55,394 554 205,574 - - 206,128 Exercise of options to common stock - - 229,121 2,291 1,057,733 - - 1,060,024 Exercise of warrants to common stock - - 902,617 9,026 4,551,025 - - 4,560,051 Issued stock options in lieu of cash compensation - - - - 28,408 - - 28,408 Change in cumulative translation adjustment - - - - - - (69,725) (69,725) Net loss - - - - - (21,036,543) - (21,036,543) ===================================================================================================== BALANCE, DECEMBER 31, 1997 - $ - 20,889,945 $ 208,899 $113,970,247 $(101,055,680) $ 19,584 $ 13,143,050 =====================================================================================================
The accompanying notes are an integral part of these consolidated financial statements. Consolidated Statements of Cash Flows
Years ended December 31, ------------------------------------------------------- DIAMETRICS MEDICAL, INC. AND SUBSIDIARY 1997 1996 1995 - -------------------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $(21,036,543) $(23,575,094) $(23,046,314) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 4,162,997 3,114,293 2,590,022 Write-off of acquired in-process technology - 464,460 - Common stock and options issued in lieu of cash compensation 28,408 - 337,613 (Gain) loss on disposal of property and equipment (80,921) (1,686) 144,192 Changes in operating assets and liabilities (net of effects of acquisition in 1996): Receivables, net (1,178,760) (580,891) (665,221) Inventories 875,881 (632,551) (414,089) Prepaid expenses and other current assets 232,582 523,050 135,143 Accounts payable 649,432 (97,319) 324,951 Accrued expenses (231,365) 445,619 (475,130) ------------------------------------------------------- Net cash used in operating activities (16,578,289) (20,340,119) (21,068,833) ------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of property and equipment (2,957,958) (1,597,218) (2,715,937) Proceeds from sales of property and equipment 236,577 102,586 1,405,565 Purchases of marketable securities (26,208,044) (8,343,433) (40,907,468) Proceeds from maturities of marketable securities 21,209,000 30,730,100 23,705,369 Acquisition of BSL, net of cash received - (1,067,848) - Other assets (36,623) (36,892) 452,483 ------------------------------------------------------- Net cash provided by (used in) investing activities (7,757,048) 19,787,295 (18,059,988) ------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES: Principal payments on borrowings (129,714) (108,477) (100,502) Proceeds from long-term borrowings 1,058,626 500,000 - Net proceeds from issuance of preferred stock 11,865,299 - - Net proceeds from issuance of common stock 13,681,372 965,674 42,746,275 Payments for redeemable common stock - - (1,000,000) Principal payments on capital lease obligations (1,165,522) (1,078,802) (964,031) ------------------------------------------------------- Net cash provided by financing activities 25,310,061 278,395 40,681,742 ------------------------------------------------------- CUMULATIVE TRANSLATION ADJUSTMENT (68,033) 24,190 - Net increase (decrease) in cash and cash equivalents 906,691 (250,239) 1,552,921 Cash and cash equivalents at beginning of year 2,451,993 2,702,232 1,149,311 ------------------------------------------------------- Cash and cash equivalents at end of year $ 3,358,684 $ 2,451,993 $ 2,702,232 ======================================================= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for interest $ 377,849 $ 510,399 $ 550,607 =======================================================
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES: The Company entered into capital lease obligations for equipment of $0, $131,058 and $1,367,073, during the years ended December 31, 1997, 1996, and 1995, respectively. On November 6, 1996, the Company entered into a senior secured fixed rate loan note of $7,300,000 in connection with the acquisition of Biomedical Sensors. The accompanying notes are an integral part of these consolidated financial statements. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES DESCRIPTION OF THE BUSINESS Diametrics Medical, Inc. along with its subsidiary (the Company), is a medical device company engaged in the development, manufacture and commercialization of critical care blood and tissue analysis systems which provide immediate or continuous diagnostic results at the point of patient care. The Company markets its products primarily to health care organizations through a direct sales force in the United States, the United Kingdom and Germany and various distributors outside of these countries. PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of Diametrics Medical, Inc. and Diametrics Medical, Ltd., its wholly-owned subsidiary (the Company). All material intercompany accounts and transactions have been eliminated. The accounts of the foreign subsidiary have been consolidated since the date of acquisition. The Company did not have any subsidiaries prior to 1996. TRANSLATION OF FOREIGN CURRENCIES The financial statements of the Company's foreign subsidiary were translated in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 52. Under this Statement, all assets and liabilities are translated using period-end exchange rates and statements of operations items are translated using average exchange rates for the period. The resulting translation adjustments are recorded as a separate component of shareholders' equity. Foreign currency transaction gains and losses are included in determining net income, but have not been material in any of the years presented. CASH AND CASH EQUIVALENTS The Company considers highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. At December 31, 1997, cash and cash equivalents consisted mainly of U.S. government money market funds and investment grade commercial paper. MARKETABLE SECURITIES In accordance with the provisions of SFAS No. 115, Investment in Certain Instruments in Debt and Equity Securities, investments in marketable debt securities have been classified as held to maturity and are stated at amortized cost, which approximates estimated fair value. At December 31, 1997, marketable securities consisted mainly of investment grade commercial paper, with original maturities ranging from three to five months. These securities are classified as held-to-maturity because of the Company's intent and ability to hold its investments to maturity. INVENTORIES Inventories are stated at the lower of cost or market using the first in, first out method. PROPERTY AND EQUIPMENT Leasehold improvements are recorded at cost and amortized over the term of the underlying lease. Furniture and equipment are recorded at cost and depreciated on a straight-line basis over their estimated useful lives of 2 to 7 years. Maintenance and repairs are expensed as incurred. OTHER ASSETS Other assets consist principally of goodwill representing purchased completed technology and other intangible assets resulting from the excess of the cost of a purchased business over the fair value of the net assets acquired. Goodwill is amortized using the straight-line method over five years. The recoverability of goodwill is assessed quarterly based upon an analysis of undiscounted cash flows projected to be generated by the acquired business. REVENUE RECOGNITION The Company recognizes revenue upon shipment of product to customers or, in the case of trial instruments and monitors, upon the customer's acceptance of the product. NET LOSS PER COMMON SHARE Effective December 31, 1997, the Company adopted SFAS No. 128, Earnings per Share. SFAS 128 simplifies the computation of earnings per share ("EPS") previously required by replacing primary and fully diluted EPS with basic and diluted EPS. Under SFAS 128, basic EPS is calculated by dividing net earnings (loss) by the weighted average common shares outstanding during the period. Diluted EPS reflects the potential dilution to basic EPS that could occur upon conversion or exercise of securities, options, or other such items, to common shares using the treasury stock method based upon the weighted average fair value of the Company's common shares during the period. For each period presented, basic and diluted loss per share amounts are identical, as the effect of potential common shares is antidilutive. PRODUCT WARRANTY The Company, in general, warrants its new hardware and software products to the original purchaser to be free from defects in material and workmanship under normal use and service for a period of one year after date of shipment, and warrants its disposable products to be free from defect in material and workmanship under normal use until its stated expiration date. Provisions are made for the estimated cost of maintaining product warranties for the hardware, software and disposable products at the time the products are sold. INCOME TAXES Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Due to historical net losses of the Company, a valuation allowance is established to offset the net deferred tax asset. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. STOCK BASED COMPENSATION The Company applies the intrinsic value method prescribed in APB Opinion No. 25 to account for the issuance of stock incentives to employees and directors and, accordingly, no compensation expense related to employees' and directors' stock incentives has been recognized in the financial statements. Effective January 1, 1996, in accordance with SFAS No. 123, Accounting for Stock Based Compensation, pro forma information reflecting compensation cost for such issuances is presented in footnote 9. RECLASSIFICATIONS Certain 1996 and 1995 amounts in the Consolidated Statements of Operations have been reclassified from prior reported balances to conform to the 1997 presentation. (2) LIQUIDITY As reflected in the accompanying consolidated financial statements, the Company incurred a net loss of $21,036,543 for the year ended December 31, 1997. In addition, the Company has incurred net losses and has had negative cash flows from operating activities since inception. Management believes current working capital and projected operating revenues, supplemented by proceeds from employee stock plans, warrant exercises and asset based credit, will provide the Company with sufficient liquidity through 1998. It is probable the Company will be required to raise additional capital by early 1999. Management's intentions are to raise this additional capital through alliances with strategic corporate partners, issuance of debt, or an equity offering. If capital requirements vary materially from those currently planned, the Company could require additional capital at an earlier time. There can be no assurance that adequate funds will be available when needed or on acceptable terms. (3) INVENTORIES Inventories are summarized as follows:
1997 1996 ----------------------------- Raw materials $ 957,049 $1,623,243 Work-in-process 442,527 569,505 Finished goods 2,188,642 2,271,351 ============================= $3,588,218 $4,464,099 =============================
(4) PROPERTY AND EQUIPMENT Property and equipment consist of the following:
1997 1996 --------------------------------- Manufacturing equipment $ 4,649,831 $ 3,988,933 Laboratory fixtures and equipment 1,956,841 2,024,811 Office furniture and equipment 3,409,351 3,868,944 Leasehold improvements 3,359,680 3,350,731 Tooling 1,870,755 1,333,097 Demonstration instruments 1,864,042 1,317,378 Capital-in-progress 949,627 412,058 --------------------------------- 18,060,127 16,295,952 Less accumulated depreciation & amortization (10,674,155) (8,008,200) ================================= $ 7,385,972 $ 8,287,752 =================================
(5) OTHER ASSETS Other assets consist of the following:
1997 1996 ------------------------------ Goodwill $1,819,956 $2,259,974 Other 27,360 58,700 ------------------------------ $1,847,316 $2,318,674 ==============================
Amortization charged to expense for goodwill was $507,981, $45,925 and $0 in 1997, 1996 and 1995, respectively. (6) ACCRUED EXPENSES Accrued expenses are summarized as follows:
1997 1996 ------------------------------ Employee compensation $1,171,572 $1,129,241 Product upgrades 711,168 1,138,420 Acquisition expenses - 295,207 Interest payable 736,750 96,943 Other 1,068,107 1,188,437 ------------------------------ $3,687,597 $3,848,248 ==============================
(7) LONG-TERM DEBT Long-term debt consists of the following:
1997 1996 --------------------------------- Senior secured fixed rate loan note $7,300,000 $7,300,000 Notes payable 1,460,846 500,000 --------------------------------- 8,760,846 7,800,000 Less current portion (283,025) (4,149) --------------------------------- $8,477,821 $7,795,851 =================================
The aggregate maturities of outstanding long-term debt are: Year ending December 31: 1998 $ 283,025 1999 314,514 2000 349,511 2001 388,400 Thereafter 7,425,396 ------------ $8,760,846 ============
The senior secured fixed rate loan note of $7,300,000 is payable to Pfizer Inc., issued in connection with the Company's acquisition of Biomedical Sensors, Ltd. (BSL), an operating unit of Pfizer Inc., on November 6, 1996. Interest is payable on December 31, 1997 and quarterly in arrears thereafter, at 8.75% per annum. The full principal balance is due November 4, 2002. The Pfizer note is secured by the issued shares of Diametrics Medical, Ltd., 100% of which were purchased by the Company. The note agreement with Pfizer Inc. contains provisions which will require acceleration of payment of principal in full in the event that prior to November 6, 1998, the Company issues securities listed or traded on any securities exchange, with aggregate net proceeds to the Company exceeding $40 million. If this doesn't occur, then, in the event the Company issues securities from November 6, 1998 to November 4, 2002 resulting in cumulative net proceeds of more than $5 million, a proportion of the outstanding principal balance shall become immediately payable. During this period, cumulative net proceeds from a securities issuance of more than $5 million but less than $10 million would require a $1 million payment of principal, while cumulative net proceeds between $10 million and less than $20 million and between $20 million and less than $40 million would require principal payments of $2.5 million and $4.5 million, respectively. Cumulative net proceeds of $40 million or greater would require full payment of the note's principal. The notes payable balance requires principal and interest payments in monthly installments at varying amounts through September 2002, at annual interest rates ranging from 10.1% to 10.95%. Maturity dates of the notes range from December 1, 2001 to September 25, 2002, and all notes are secured by equipment. (8) LEASES The Company is obligated under various capital leases for furniture and equipment that expire at various dates during the next two years. The gross amount included in property and equipment and related accumulated amortization relating to capital leases is as follows:
1997 1996 ----------------------------- Manufacturing equipment $ 1,415,465 $ 2,124,241 Laboratory fixtures and equipment 377,019 599,940 Office furniture and equipment 1,180,893 1,358,874 Leasehold improvements 16,668 16,668 Tooling 7,030 7,030 ----------------------------- 2,997,075 4,106,753 Less accumulated amortization (2,733,165) (2,893,465) ----------------------------- $ 263,910 $ 1,213,288 =============================
The present value of future minimum capital lease payments is as follows:
Year ending December 31: 1998 $ 747,432 1999 61,144 ----------- Total minimum lease payments 808,576 Less amount representing interest (61,730) ----------- Present value of minimum capital lease payments 746,846 Less current portion of capital lease obligations (686,925) ----------- Capital lease obligations, excluding current portion $ 59,921 ===========
(9) STOCK OPTIONS AND WARRANTS Under the terms of the 1990 Stock Option Plan, incentive stock options and non-qualified stock options to purchase up to 3,000,000 shares of common stock may be granted to Company employees and consultants. Additionally, the Directors' Plan provides grants to non-employee directors of the Company of non-qualified stock options to purchase up to an aggregate of 217,500 shares of common stock. Under the plans, the option price is equal to the fair value on the date of grant. Under the 1990 Stock Option Plan, options become exercisable over varying periods and terminate up to ten years from the date of grant. Under the Directors' Plan, options become exercisable over a three year period and terminate ten years from the date of grant. At December 31, 1997, 136,478 and 69,750 additional shares were available for grant under the 1990 Stock Option Plan and Directors' Plan, respectively. The following tables reflect the per share weighted-average fair value of stock options granted during 1997, 1996 and 1995 under each of the plans on the date of grant using the Black Scholes option-pricing model with the following assumptions: annualized volatility of 74.15%, 70.81% and 80.04% for 1997, 1996 and 1995, respectively; risk-free interest rate of 5.7% in 1997 and 5.5% in 1996 and 1995, respectively; and for each year, an expected life of five and three years for the 1990 Stock Option Plan and Directors' Plan, respectively. The status of the Company's stock option plans as of December 31, 1997, 1996 and 1995 and changes during those years, is summarized as follows:
1997 1996 1995 ----------------------------- ----------------------------- ---------------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE 1990 STOCK OPTION PLAN SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE ------------ -------------- ------------ -------------- ------------ -------------- Outstanding at beginning of year 2,290,395 $ 5.15 1,450,188 $ 4.66 1,175,494 $ 4.01 Granted 452,415 5.94 1,322,400 5.47 310,375 7.04 Exercised (210,621) 4.63 (235,244) 2.83 (25,874) 3.18 Expired (144,392) 6.57 (246,949) 6.25 (9,807) 5.83 ------------ ------------ ------------ Outstanding at end of year 2,387,797 5.26 2,290,395 5.15 1,450,188 4.66 ============ ============ ============ Options exercisable at year-end 1,258,262 4.85 1,172,405 4.70 941,286 3.78 Weighted-average fair value of options granted during the year $ 3.84 $ 3.44 $ 4.52 1993 DIRECTORS' STOCK OPTION PLAN Outstanding at beginning of year 170,000 $ 6.16 126,500 $ 6.89 82,500 $ 4.82 Granted 40,000 6.00 55,500 4.95 58,500 9.24 Exercised (18,500) 4.63 - - (7,250) 4.60 Expired (69,500) 6.53 (12,000) 8.27 (7,250) 4.60 ------------ ------------ ------------ Outstanding at end of year 122,000 6.13 170,000 6.16 126,500 6.89 ============ ============ ============ Options exercisable at year-end 76,625 5.81 112,000 6.08 59,000 5.25 Weighted-average fair value of options granted during the year $ 3.13 $ 2.50 $ 5.10
The following table summarizes information concerning stock options outstanding and exercisable options at December 31, 1997 for the above plans:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------------------------------- --------------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE RANGE OF NUMBER REMAINING EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE ------------------------------------------------------------------- --------------------------- $ 1.72 - $ 1.72 165,160 3.2 $ 1.72 165,160 $ 1.72 3.25 - 3.88 162,050 5.2 3.52 148,050 3.49 4.19 - 4.88 773,387 7.7 4.64 394,887 4.64 5.00 - 5.94 419,400 8.5 5.29 194,265 5.34 6.00 - 6.88 737,350 7.8 6.15 351,875 6.16 7.00 - 7.95 76,500 8.7 7.34 41,200 7.28 8.00 - 12.00 175,950 9.0 8.77 39,450 10.27 ---------- --------- ---------- ---------- -------- 2,509,797 7.5 5.30 1,334,887 4.90 ========== ==========
The Company applies APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations in accounting for its plans. Accordingly, no compensation expense has been recognized for its stock- based compensation plans as they relate to employees and directors. Had the Company determined compensation cost based upon the fair value at the grant date for its stock options under SFAS No. 123, the Company's net loss and net loss per share would have increased to the pro forma amounts indicated below:
1997 1996 1995 --------------------------------------------- Net loss as reported $ (21,036,543) $ (23,575,094) $ (23,046,314) Net loss pro forma $ (23,365,049) $ (26,017,576) $ (23,738,550) Net loss per share as reported $ (1.13) $ (1.56) $ (1.82) Net loss per share pro forma $ (1.25) $ (1.72) $ (1.88)
Pro forma net loss reflects only options granted in 1997, 1996 and 1995. Therefore, the full impact of calculating compensation cost for stock options under SFAS No. 123 is not reflected in the pro forma net loss amounts presented, because compensation cost is reflected over the options' vesting period and compensation cost for options granted prior to January 1, 1995 is not considered. In connection with certain financing and marketing arrangements, the Company has granted stock purchase warrants for the purchase of 2,305,394 shares of common stock. The stock purchase warrants become exercisable over varying periods and expire up to 10 years from the date of grant. At December 31, 1997, stock purchase warrants representing 961,827 shares were exercisable with an additional 66,333 shares becoming exercisable on a monthly basis over 28 months (58,333 shares), or upon achieving certain purchasing levels of the Company's products (8,000 shares). Stock warrant transactions under these arrangements are summarized as follows:
1997 1996 1995 --------------------------- -------------------------- ------------------------------- EXERCISE EXERCISE EXERCISE PRICE PRICE PRICE SHARES PER SHARE SHARES PER SHARE SHARES PER SHARE ----------- ------------- --------- ------------- ---------- ---------------- Outstanding at beginning of year 786,814 $ 1.72 - 6.13 843,314 $ 1.72 - 6.13 861,310 $ 1.72 - 6.13 Granted 1,328,334 4.53 - 6.75 16,000 5.00 20,000 5.25 Exercised (902,617) 4.77 - 6.75 - - (1,746) 5.25 - 6.00 Expired (184,371) 4.77 - 5.06 (72,500) - (36,250) 5.25 - 6.00 --------- -------- -------- Outstanding at end of year 1,028,160 1.72 - 6.75 786,814 1.72 - 6.13 843,314 1.72 - 6.13 ========= ======== ======== Warrants exercisable at year-end 961,827 1.72 - 6.75 706,314 1.72 - 6.13 698,314 1.72 - 6.13
(10) EMPLOYEE STOCK PURCHASE PLAN The Company adopted an employee stock purchase plan (the "Plan") effective July 3, 1995, under which 300,000 shares of common stock are available for sale to employees. The Plan enables all employees, after a 90-day waiting period, to contribute up to 10 percent of their wages toward the purchase of the Company's common stock at 85 percent of the lower of fair market value for such shares on the first business day of each quarter or the last business day of each quarter. Participant elections resulted in the issuance of 55,394 shares at an average price per share of $3.72 in 1997 and 74,096 shares at an average price per share of $4.06 in 1996. (11) EMPLOYEE BENEFIT PLANS The Company has a 401(k) savings plan for its U.S. employees. U.S. employees of the Company who meet certain age and service requirements may contribute up to 20 percent of their salaries to the plan on a pre-tax basis. The Company has the discretion to match employee contributions up to 6 percent of compensation. The Company has not made any contributions to the plan. As part of its acquisition of the England-based Biomedical Sensors, Ltd. (BSL) in November 1996, the Company assumed sponsorship of the subsidiary's contributory defined benefit retirement plan, covering the majority of the subsidiary's employees. The Plan provides benefits based upon final pensionable salary and years of credited service. The Company's funding policy for the Plan is to contribute into a trust fund at a rate that is intended to remain at a level percentage of total pensionable payroll. The assets of the Plan are held separately from those of the Company and invested in the London and Manchester Secure Growth Fund, Balanced Fund and a small holding in the Performance Fund. A portion of plan assets are also invested in the Scottish Equitable Funds. Contributions to the Plan are charged to expense so as to spread the cost of the pensions over the employees' working lives with the Company. The contributions are determined by a qualified actuary on the basis of a valuation using the "attained age" valuation method. The Company's Statement of Operations for the year ended December 31, 1996 includes approximately one month of activity for DML, and pension expense charged to operations during that period was minimal. Following is the net periodic pension cost charged to operations in 1997, along with a description of the funded status of the Plan at December 31, and assumptions used in developing the projected benefit obligation as of December 31. NET PERIODIC PENSION COST
Year ended December 31, 1997 ---------------- Service cost $ 296,062 Interest cost 216,988 Actual return on plan assets (263,016) Deferred asset gain 16,860 ---------------- $ 266,894 ================
FUNDED STATUS OF DEFINED BENEFIT RETIREMENT PLAN AT DECEMBER 31, 1997 AND 1996
1997 1996 ------------------------------------ Actuarial present value of obligation: Vested benefit obligation $ 3,632,740 $ 2,585,814 ----------------------------------- Accumulated benefit obligation $ 3,665,570 $ 2,616,059 ----------------------------------- Projected benefit obligation $ 3,954,675 $ 2,762,245 ----------------------------------- Plan assets at fair value $ 3,234,425 $ 2,660,923 ----------------------------------- Excess of projected benefit obligation over plan assets (720,250) (101,322) Unrecognized loss 658,878 - ----------------------------------- Net pension liability recognized in balance sheet $ (61,372) $ (101,322) =================================== RATE ASSUMPTIONS: Discount rate 7.00% 8.00% Rate of salary progression 5.00% 5.75% Long-term rate of return on assets 7.50% 9.25%
The net pension liability recognized as of December 31, 1996 was part of a required purchase accounting fair value adjustment recorded upon the acquisition of BSL to reflect the U.K. to U.S. GAAP adjustment relating to the accounting for pension costs under the provisions of SFAS No. 87. (12) INCOME TAXES The Company has incurred net operating losses since inception. The Company has not reflected any benefit of such net operating loss carryforwards in the accompanying financial statements in accordance with Statement of Financial Accounting Standards No. 109. As of December 31, 1997 the Company has U.S. tax net operating loss and research and development tax credit carryforwards of approximately $91,000,000 and $900,000, respectively. Pursuant to the Tax Reform Act of 1986, use of the Company's net operating loss carryforwards may be limited if a cumulative "change in ownership" of more than 50 percent occurs within a three-year period. In connection with prior sales by the Company of its securities in private and public offerings, the Company has experienced a "change in ownership". As a result, the utilization of the Company's net operating loss and certain credit carryforwards incurred prior to these changes are subject to annual limitations. The Company estimates that the use of the U.S. net operating losses incurred from January 26, 1990 (inception) through February 11, 1991 is limited to approximately $418,000 per year; the use of net operating losses incurred from February 12, 1991 through December 7, 1992 is limited to approximately $1.9 million per year. If not used, these net operating loss carryforwards begin to expire in 2005. The Company's foreign subsidiary also has a net operating loss carryforward of approximately $40,700,000 which can be carried forward indefinitely. The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 1997 and 1996 are as follows:
1997 1996 ----------------------------------- Tax credits $ 903,000 $ 844,000 Federal net operating loss carryforward 33,643,000 27,787,000 Foreign net operating loss carryforward 13,428,000 11,828,000 Fixed asset depreciation 910,000 587,000 Amortization of goodwill 137,000 8,000 Vacation accrual 125,000 117,000 Inventory reserve 34,000 96,000 Product upgrade accrual 153,000 286,000 Other differences 114,000 161,000 Valuation allowance (49,447,000) (41,714,000) ----------------------------------- Net deferred tax asset $ - $ - ===================================
The provision for income taxes differs from the expected tax expense, computed by applying the federal corporate rate of 34% to earnings before income taxes as follows:
1997 1996 -------------------------------- Expected federal benefit $(7,152,000) $(8,016,000) State tax, net of federal benefit (493,000) (699,000) Other (88,000) (42,000) Increase in valuation allowance 7,733,000 20,585,000 Decrease in valuation allowance of acquired foreign subsidiary - (11,828,000) -------------------------------- $ - $ - ================================
(13) RESTRUCTURING AND OTHER CHARGES In late 1995 and throughout 1996 and 1997, the Company made operational changes intended to better align its resources with its evolving strategy, improve its efficiency, and achieve a more competitive cost structure. Restructuring and other charges totaled $463,816 in 1997, $1,334,661 in 1996 and $391,834 in 1995. Charges in 1995 reflect severance costs associated with a management reorganization in late 1995. Charges in 1996 consist of approximately $584,000 for severance costs related to continued restructuring of the management team in early 1996 and a work force reduction in November, $464,000 for the write-off of purchased in-process research and development created from the BSL acquisition, and $287,000 for the write-down of excess and obsolete equipment, resulting from the work force reductions and process changes. Charges in 1997 consist of severance costs of approximately $319,000, associated with work force reductions primarily in the Company's U.S. manufacturing, research and development and general and administrative areas, and $145,000 for the write-down of excess and obsolete equipment resulting from the work force reductions and further process changes. These restructuring activities were completed before or shortly after the end of the quarter of the years in which charges were incurred, and the Company does not have any material future cash obligations relative to the described restructuring activities. The impact of work force reductions on future operating results and cash flows is not expected to be material in the long term, as savings achieved in these areas have been and will continue to be reinvested in other areas of the Company, including the Company's international operations. (14) RELATED PARTY TRANSACTIONS Certain equipment used by the Company was leased from late 1990 through mid 1997 under a sublease arrangement with FIM, an entity that is related to the Company through stockholders. FIM leased the equipment from an unrelated entity. The Company paid FIM an amount equal to FIM's lease payments. The leases were accounted for as capital leases. As of December 31, 1997, the debt related to the sublease with FIM was fully paid. Payments on leases of equipment, under the arrangement with FIM discussed above, were guaranteed up to a principal amount of approximately $1,300,000 by Medical Innovation Fund, a holder of approximately 8% of the Company's common stock as of December 31, 1996. (15) MAJOR CUSTOMERS, EXPORT SALES AND DOMESTIC AND FOREIGN OPERATIONS Sales to major customers that exceeded 10% of total net sales for the years ended December 31 were as follows:
1997 1996 1995 --------------------------------- Customer A - - 14% Customer B 22% - - Customer C - - -
The customers from which the above sales were generated are distributors of the Company operating in the medical diagnostic device industry. The Company's export sales (i.e. sales to unaffiliated customers outside of the U.S.) were $6,487,079, $1,248,915 and $318,219 for the years ended December 31, 1997, 1996 and 1995, respectively. These sales were primarily in Europe and Japan. Information regarding the Company's operations in different geographies for the years ended December 31, 1997 and 1996 is as follows:
United Adjustments States Europe and eliminations Consolidated ----------------------------------------------------------------- 1997 Sales to unaffiliated customers $ 7,102,314 $ 3,332,052 $ - $ 10,434,366 Sales/transfers between geographic areas 60,232 733,580 (793,812) - ------------- ------------ -------------- -------------- Total sales $ 7,162,546 $ 4,065,632 $ (793,812) $ 10,434,366 ------------- ------------ -------------- -------------- Operating loss $ (16,033,452) $ (4,627,653) $ 151,524 $ (20,509,581) ------------- ------------ -------------- -------------- Identifiable assets $ 21,345,236 $ 8,021,957 $ (705,660) $ 28,661,533 ============= ============ ============== ============== 1996 Sales to unaffiliated customers $ 3,566,952 $ 229,864 $ - $ 3,796,816 Sales/transfers between geographic areas - 48,879 (48,879) - ------------- ------------ ------------ -------------- Total sales $ 3,566,952 $ 278,743 $ (48,879) $ 3,796,816 ------------- ------------ ------------ -------------- Operating loss $ (23,531,879) $ (257,952) $ 7,620 $ (23,782,211) ------------- ------------ ------------ -------------- Identifiable assets $ 17,359,439 $ 8,172,640 $ (1,473,440) $ 24,058,639 ============= ============ ============ ==============
The Company did not have operations outside of the United States prior to 1996. The Company's European operations are primarily in the United Kingdom. Sales and transfers between geographic areas primarily represent intercompany sales and are accounted for based upon established transfer prices between the related entities. Identifiable assets of geographic areas are those assets related to the Company's operations in each area. United States assets include all of the Company's marketable securities. (16) COMMITMENTS The Company leases its facilities and some of its equipment under non- cancelable operating lease arrangements. The rental payments under these leases are charged to expense as incurred. Rent expense included in the accompanying consolidated statements of operations was $829,106, $412,295 and $376,558 for the years ended December 31, 1997, 1996 and 1995, respectively. The following is a schedule of future minimum rental payments, excluding property taxes and other operating expenses, required under all non- cancelable operating leases as of December 31, 1997: Year ending December 31: 1998 $ 552,326 1999 462,136 2000 298,927 2001 203,962 2002 and thereafter 4,636 ----------- Total minimum lease payments $ 1,521,987 ===========
(17) LEGAL PROCEEDINGS There are no legal proceedings pending against or involving the Company, which, in the opinion of management, will have a material adverse effect upon consolidated results of operations or financial condition. (18) ACQUISITIONS On November 6, 1996, the Company acquired all the outstanding capital stock of Biomedical Sensors, Ltd. (BSL), an operating unit of Pfizer Inc. and certain assets from Howmedica, Inc. (a wholly-owned subsidiary of Pfizer Inc.), for $1,500,000 in cash and a $7,300,000 senior secured fixed rate loan note, due November 4, 2002 (see footnote 7). In the purchase of BSL, the Company acquired fiberoptic and electrochemical technology for monitoring blood gases on a continual basis via sensors that dwell inside arterial lines. Core technology was also purchased for future product derivatives under development. The Company accounted for the acquisition using the purchase method. As such, the excess of the purchase price over the fair value of the identifiable assets acquired was recorded as goodwill, which consisted of purchased completed technology (70%), purchased in-process technology (16%), and the value of the acquired customer base and other unidentifiable intangible assets (14%), totaling $2,770,359. The in-process technology ($464,460) was written off to operating expenses, leaving $2,305,899 of goodwill on the balance sheet at the acquisition date. Due to the rapid pace of technological change in the medical device industry, the completed technology has an estimated life of five years. The customer base and other unidentifiable assets is estimated to have an average useful life of five years. This results in a weighted average amortization period of five years for the intangible assets not immediately written off. The unaudited pro forma consolidated condensed results of operations for the Company for fiscal years 1996 and 1995, had the acquisition occurred at the beginning of each fiscal year presented, are as follows:
1996 1995 --------------------------------- Net sales $ 7,021,000 $ 5,387,000 Net loss (33,586,000) (35,517,000) Net loss per common share (2.23) (2.81)
Included in total revenue and net loss for 1996 are revenues and net loss from the BSL operations of $326,000 and $(421,000), respectively. (19) QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER ------------------------------------------------------------------------- 1997 Net sales $ 1,954,966 $ 2,607,679 $ 2,829,279 $ 3,042,442 Gross profit (loss) (872,980) (213,895) (189,668) 44,767 Operating loss (5,602,223) (5,090,759) (4,960,888) (4,855,711) Net loss (5,772,013) (5,254,034) (5,153,267) (4,857,229) Net loss per common share (0.38) (0.29) (0.25) (0.23) 1996 Net sales $ 609,571 $ 583,530 $ 669,848 $ 1,933,867 Gross profit (loss) (1,789,474) (1,562,377) (1,510,680) (1,200,912) Operating loss (5,743,317) (6,114,413) (5,521,395) (6,403,086) Net loss (5,548,010) (6,064,471) (5,484,272) (6,478,341) Net loss per common share (0.37) (0.40) (0.36) (0.43)
REPORT OF INDEPENDENT AUDITORS THE BOARD OF DIRECTORS AND SHAREHOLDERS DIAMETRICS MEDICAL, INC.: We have audited the accompanying consolidated balance sheets of Diametrics Medical, Inc. and subsidiary as of December 31, 1997 and 1996, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 1997. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Diametrics Medical, Inc. and subsidiary as of December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1997, in conformity with generally accepted accounting principles. /s/ KPMG Peat Marwick LLP Minneapolis, Minnesota January 28, 1998 SHAREHOLDER INFORMATION STOCK LISTING The Company's common stock is traded on The Nasdaq National Market under the symbol DMED. STOCK TRANSFER AGENT American Stock Transfer & Trust Company 40 Wall Street New York, NY 10005 Phone: (212) 936-5100 FORM 10-K A copy of the Company's annual report on Form 10-K as filed with the Securities and Exchange Commission is available free of charge by writing to Diametrics Medical, Inc. ANNUAL MEETING The annual meeting of Diametrics Medical, Inc. shareholders will be held May 13, 1998, at 3:30 p.m. at the Minneapolis Marriott City Center, 30 South Seventh Street, Minneapolis, Minnesota. All shareholders and other interested parties are invited to attend. INVESTOR INQUIRIES Please direct all inquiries to Laurence L. Betterley, Senior Vice President and Chief Financial Officer, at the Company's corporate offices. STOCK INFORMATION High and low quarterly closing prices for Diametrics Medical, Inc., common stock as quoted on The Nasdaq National Market were:
1997 High Low --------------------------------------------------------------------------- First Quarter $ 5 3/4 $ 3 1/2 Second Quarter 9 1/4 3 Third Quarter 9 15/16 6 9/16 Fourth Quarter 10 1/8 4 5/8
1996 High Low --------------------------------------------------------------------------- First Quarter $ 6 7/8 $ 4 1/4 Second Quarter 8 4 1/2 Third Quarter 5 5/8 4 1/4 Fourth Quarter 4 7/8 3 1/4
There were 545 common shareholders of record and the Company estimates approximately 5,800 shareholders holding stock in "street name" accounts as of December 31, 1997. The Company has not paid any stock dividends on its common stock since its inception, and management does not anticipate paying cash dividends in the foreseeable future. CORPORATE ADDRESS INTERNATIONAL SUBSIDIARY Diametrics Medical, Inc. Diametrics Medical, Ltd. 2658 Patton Road 5 Manor Court Yard, Hughenden Ave. St. Paul, Minnesota 55113 High Wycombe, Bucks. HP13 5RE Phone: (612) 639-8035 England Website: www.diametrics.com Phone: +44(0)1494 446651 EX-21 5 LIST OF SUBSIDIARIES EXHIBIT 21 SUBSIDIARIES OF DIAMETRICS MEDICAL, INC. The Company's consolidated subsidiaries are shown below, together with the percentage of voting securities owned and the state or jurisdiction of each subsidiary: Percentage of Outstanding Voting Subsidiaries Securities Owned - ------------ ----------------- Diametrics Medical, Ltd. 100% (United Kingdom) EX-23 6 INDEPENDENT AUDITORS' CONSENT EXHIBIT 23 Independent Auditors' Consent The Board of Directors and Shareholders Diametrics Medical, Inc.: We consent to the incorporation by reference in the Registration Statement (No. 333-33257) on Form S-3 of Diametrics Medical, Inc. of our report dated January 28, 1998, relating to the consolidated balance sheets of Diametrics Medical, Inc. as of December 31, 1997 and 1996, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 1997, which report is incorporated by reference in the Annual Report on Form 10-K of Diametrics Medical, Inc. /s/ KPMG Peat Marwick LLP Minneapolis, Minnesota March 27, 1998 EX-27 7 FINANCIAL DATA SCHEDULE
5 12-MOS DEC-31-1997 JAN-01-1997 DEC-31-1997 3,358,684 8,401,642 3,957,127 188,599 3,588,218 19,428,245 18,060,127 10,674,155 23,661,533 6,919,369 8,537,742 0 0 208,899 12,934,151 23,661,533 10,434,366 10,434,366 11,666,142 19,277,805 (717,940) 227,245 1,017,657 (21,036,543) 0 (21,036,543) 0 0 0 (21,036,543) (1.13) (1.13)
EX-99 8 CAUTIONARY STATEMENTS EXHIBIT 99 CAUTIONARY FACTORS UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT Diametrics Medical, Inc. (the "Company") desires to take advantage of the "safe harbor" provisions contained in the Private Securities Litigation Reform Act of 1995 (the "Act"). Contained in this Form 10-K are statements which are intended as "forward-looking statements" within the meaning of the Act. The words or phrases "expects," "will continue," "is anticipated," "management believes," "estimate," "projects," "hope" or expressions of a similar nature denote forward-looking statements. Those statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results or from those results presently anticipated or projected. The Company wishes to caution readers not to place undue reliance on forward-looking statements. Readers should be advised that the factors listed below have affected the Company's performance in the past and could affect future performance. Those factors include, but are not limited to, the lack of, or slow rate of, market acceptance of the Company's products; the impact of competitors' products and pricing; the effect of changes in customer demands; the risk there will be technical difficulties in production; and the inability of the Company to attract and retain skilled employees in the product development and manufacturing areas. Other factors include the following: EARLY STAGE OF COMMERCIALIZATION; LIMITED RELEVANT OPERATING HISTORY The Company was founded in 1990 and until 1995 was engaged primarily in the research, development and testing of, and the development of manufacturing capabilities for, the IRMA(R) (Immediate Response Mobile Analysis) System and the Paratrend(R) 7. Marketing efforts began for both products during 1994. The Company has limited operating history upon which an evaluation of its prospects can be made. Such prospects must be considered in light of the risks, expenses and difficulties frequently encountered in establishing a new business in the evolving, heavily-regulated medical device industry, which is characterized by an increasing number of entrants, intense competition and a high failure rate. ABSENCE OF PROFITABILITY; ANTICIPATED FUTURE LOSSES The Company has only recently begun to generate revenues and has incurred net operating losses since its inception. Net losses for the years ended December 31, 1997, 1996 and 1995 were approximately $21,037,000, $23,575,000 and $23,046,000, respectively. The Company had an accumulated deficit of approximately $101,056,000 at December 31, 1997. The Company expects to incur substantial net operating losses at least through 1998. There is no assurance that the Company will ever generate substantial revenues or achieve profitability. NEW TECHNOLOGY; UNCERTAIN MARKET ACCEPTANCE The Company's success is dependent upon acceptance of its products by the medical community as reliable, accurate and cost-effective. Because the products are point of care blood testing and monitoring devices, they represent a new practice in the analysis of blood analytes. Critical or stat blood testing is currently performed primarily by central and stat laboratories of hospitals or by independent commercial laboratories, rather than at the point of care. Although professional awareness of point of care blood testing is increasing, most acute care hospitals have already installed costly benchtop blood testing instruments for use in their central and stat laboratories and may be reluctant to change standard operating procedures for performing blood analysis or incur additional capital expenditures for new blood analysis equipment. In addition, the limited number of analytes that can be analyzed on the products may cause certain hospitals not to consider them. The Company is unable to predict how quickly, if at all, the products will be accepted by members of the medical community or, if accepted, what the utilization of disposable cartridges and sensors may be. Therefore, the Company is unable to provide any assurance as to sales volume of the products or the related disposable cartridges and sensors. FUTURE ADDITIONAL CAPITAL REQUIREMENTS The Company expects that its existing capital resources, warrant and stock option exercises, future equipment financing and asset based credit arrangements, and strategic alliances will enable the Company to maintain its current and planned operations through 1998. Nonetheless, the Company's capital requirements depend on numerous factors, including the rate of market acceptance of the Company's products, the level of resources devoted to expanding the Company's marketing organization and manufacturing capabilities, the Company's research and development activities, the availability of financing for capital acquisitions and other factors. The timing and amount of such capital requirements cannot accurately be predicted. If capital requirements vary materially from those currently planned, the Company will require additional capital at an earlier time. The Company has no commitments for any additional financing, and no assurance exists that any such commitments can be obtained on favorable terms, if at all. Any additional equity financings may be dilutive to shareholders, and debt financing, if available, may involve restrictive covenants. The Company is also pursuing corporate strategic alliances. Such alliances may require the Company to relinquish rights to certain of its technologies, products or marketing territories. HIGHLY COMPETITIVE MARKETS; RISK OF TECHNOLOGICAL OBSOLESCENCE The medical technology industry is characterized by rapidly evolving technology and intense competition. The Company is aware of one other commercially available hand-held point of care blood analysis system, which is manufactured and marketed by i-STAT Corporation ("i-STAT"). The Company expects that manufacturers of central and stat laboratory testing equipment will also compete to maintain their revenues and market share. Many of the companies in the medical technology industry and manufacturers of central and stat laboratory equipment have substantially greater capital resources, research and development staffs and facilities than the Company. Such entities have developed, may be developing or could in the future attempt to develop additional products competitive with the Company's. Many of these companies also have substantially greater experience than the Company in research and development, obtaining regulatory approvals, manufacturing, and sales and marketing, and may therefore represent significant competition. There can be no assurance that the Company's competitors will not succeed in developing or marketing technologies and products that are more effective or less expensive than those developed or marketed by the Company or that would render the Company's technology and products obsolete or noncompetitive. Although the Company believes that its products may offer certain technological advantages over its competitors' currently-marketed products, earlier entrants in the market in a therapeutic area often obtain and maintain significant market share relative to later entrants. In the future, the Company may experience competitive pricing pressures that may adversely affect unit prices and sales levels. LIMITED MANUFACTURING EXPERIENCE The Company must manufacture its products in compliance with regulatory requirements, in sufficient quantities and on a timely basis, while maintaining product quality and acceptable manufacturing costs. The products consist of two principal components: portable, microprocessor-based instruments and disposable sensors. The Company has limited experience producing in large commercial quantities. Although the Company believes that, based on its manufacturing experience to date, it will be able to achieve and maintain product accuracy and reliability when producing in the quantities required for profitable operations, on a timely basis and at an acceptable cost, there can be no assurance that it will be able to do so. The instruments are manufactured for the Company by outside vendors, and there can be no assurance that such vendors will be able to provide the Company with a sufficient quantity to meet the Company's needs. DEPENDENCE ON PATENTS AND PROPRIETARY TECHNOLOGY The Company's success will depend in part on its ability to obtain patent protection for products and processes, to preserve its trade secrets and to operate without infringing the proprietary rights of third parties. The validity and breadth of claims covered in medical technology patents involves complex legal and factual questions and, therefore, may be highly uncertain. No assurance can be given that any patents under pending patent applications or any future patent applications will be issued, that the scope of any patent protection will exclude competitors or provide competitive advantages to the Company, that any of the Company's patents will be held valid if subsequently challenged or that others will not claim rights in or ownership to the patents and other proprietary rights held by the Company. Furthermore, there can be no assurance that others have not developed or will not develop similar products, duplicate any of the Company's products or, if patents are issued to the Company, design around such patents. In addition, whether or not the Company's patents are issued, others may hold or receive patents which contain claims having a scope that covers products developed by the Company. The Company also relies upon unpatented trade secrets to protect its proprietary technology, and no assurance can be given that others will not independently develop or otherwise acquire substantially equivalent techniques or otherwise gain access to the Company's proprietary technology or disclose such technology or that the Company can ultimately protect meaningful rights to such unpatented proprietary technology. RISK OF PATENT LITIGATION There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. Litigation, which could result in substantial cost to and diversion of effort by the Company, may be necessary to enforce patents issued to the Company, to protect trade secrets or know-how owned by the Company, to defend the Company against claimed infringement of the rights of others or to determine the ownership, scope or validity of the proprietary rights of the Company and others. An adverse determination in any such litigation could subject the Company to significant liabilities to third parties, could require the Company to seek licenses from third parties and could prevent the Company from manufacturing, selling or using its products, any of which could have a material adverse effect on the Company's business, financial condition and results of operations. The Company is not currently a party to any patent litigation. DEPENDENCE ON MANAGEMENT AND OTHER KEY PERSONNEL The success of the Company and of its business strategy is dependent in large part on the ability of the Company to attract and retain key management and operating personnel. Such individuals are in high demand and are often subject to competing offers. In addition, the Company will have an ongoing need to expand its management personnel and support staff. The loss of the services of one or more members of the management group or the inability to hire additional personnel as needed may have an adverse effect on the Company. UNCERTAINTY OF GOVERNMENT HEALTH CARE POLICY AND FUTURE REIMBURSEMENT The willingness of hospitals to purchase the Company's products may depend on the extent to which hospitals limit capital expenditures due to cost reimbursement regulations, including regulations promulgated by the Health Care Financing Administration ("HCFA"), and general uncertainty relating to government health care policy. In addition, sales volumes and prices of the Company's products in certain markets will be dependent in part on the level of availability of reimbursement to hospitals for blood analysis from third-party payors, such as government and private insurance plans, health maintenance organizations and preferred provider organizations. There can be no assurance that current reimbursement amounts, if any, will not be decreased in the future, and that any such decrease will not reduce the demand for or the price of the Company's products. Any health care reform measures adopted by the federal government could adversely affect the price of medical devices in the United States or the amount of reimbursement available, and consequently could be adverse to the Company. No prediction can be made as to the outcome of any reform initiatives or their impact on the Company. GOVERNMENT REGULATION AND NEW PRODUCT DEVELOPMENT Human diagnostic products are subject, prior to clearance for marketing, to rigorous pre-clinical and clinical testing mandated by the United States Food and Drug Administration (the "FDA") and comparable agencies in other countries and, to a lesser extent, by state regulatory authorities. The Company has obtained pre-market notification clearances under Section 510(k) ("Section 501(k)") of the Food, Drug and Cosmetic Act (the "FDC Act") to market the IRMA SL System to test blood gases, electrolytes and hematocrit in whole blood in hospital laboratories and at the point of care and the Paratrend 7 and Paratrend 7+ to monitor blood gases. In early 1998 additional pre-market notifications were obtained for the addition of glucose testing capability to the IRMA SL System, and Neotrend for blood gas monitoring of critically ill neonates. A 510(k) clearance is subject to continual review and later discovery of previously unknown problems may result in restrictions on the product's marketing or withdrawal of the product from the market. The Company's long-term business strategy includes development of cartridges and sensors for performing additional blood and tissue chemistry tests, and any such additional tests will be subject to the same regulatory process. No assurance can be given that the Company will be able to develop such additional products or uses on a timely basis, if at all, or that the necessary clearances for such products and uses will be obtained by the Company on a timely basis or at all, or that the Company will not be subjected to a more extensive prefiling testing and FDA approval process. The Company also plans to market its products in several foreign markets. Requirements vary widely from country to country, ranging from simple product registrations to detailed submissions such as those required by the FDA. Manufacturing facilities are also subject to FDA inspection on a periodic basis and the Company and its contract manufacturers must demonstrate compliance with current Good Manufacturing Practices ("GMP") promulgated by the FDA. The Company will be required to expend time, resources and effort in the areas of production and quality control to ensure full technical compliance. If violations of the applicable regulations are noted during FDA inspections of the Company's manufacturing facilities or the manufacturing facilities of its contract manufacturers, the continued marketing of the Company's products may be adversely affected. EFFECT OF CLINICAL LABORATORY IMPROVEMENT ACT OF 1988 The Company's products are affected by the Clinical Laboratory Improvement Amendment of 1988 ("CLIA") which has been implemented by the FDA. This law is intended to assure the quality and reliability of all medical testing in the United States regardless of where tests are performed. The regulations require laboratories performing blood chemistry tests to meet specified standards in the areas of personnel qualification, administration, participation in proficiency testing, patient test management, quality control, quality assurance and inspections. The regulations have established three levels of regulatory control based on test complexity - "waived," "moderate complexity" and "high complexity." Although the tests performed by the products have been categorized as moderate complexity tests, there can be no assurance that they will continue to be so categorized. Personnel standards for high complexity tests are more rigorous than those for moderate complexity tests, requiring that testing personnel have more education and experience than personnel conducting moderate complexity tests. Any recategorization of the tests performed by the Company's products as high complexity tests could affect the Company's ability to successfully market them. As a result of the CLIA requirements, hospitals may be discouraged from expanding point of care analysis and previously unregulated testing markets, including physician office laboratories and small volume test sites, and may be dissuaded from initiating, continuing or expanding patient testing. There can be no assurance that the CLIA regulations or future administrative interpretations of CLIA or various state regulations requiring licensed technicians to operate point of care devices will not have a material adverse effect on the Company. PRODUCT LIABILITY RISK; NO ASSURANCE INSURANCE IS ADEQUATE The Company faces an inherent business risk of exposure to product liability claims in the event that the use of its products is alleged to have resulted in adverse effects to a patient. Although the Company has not experienced any product liability claims to date, any such claims could have an adverse impact on the Company. The Company maintains a general insurance policy which includes coverage for product liability claims. The policy is limited to a maximum of $1,000,000 per product liability claim and an annual aggregate policy limit of $2,000,000. The Company also carries umbrella liability insurance which provides coverage up to $10,000,000. There can be no assurance that liability claims will not exceed the coverage limits of such policies or that such insurance will continue to be available on commercially reasonable terms or at all. Consequently, a product liability claim or other claim with respect to uninsured liabilities or in excess of insured liabilities could have a material adverse effect on the Company. DEPENDENCE ON CONTRACT MANUFACTURERS AND SUPPLIERS The Company's instruments, both monitors and IRMA analyzers, are manufactured for the Company by single vendors, generally from off-the-shelf components. A few components are supplied by a single source and manufactured to the Company's specifications. Although the Company believes that it could find alternative vendors, any interruption in supply could have a material adverse effect on the Company. Although the Company believes that alternative sources for key components are available, any interruption in supply of these components could have a material adverse effect on the Company's ability to manufacture its products. CONTROL BY EXISTING SHAREHOLDERS As of December 31, 1997, directors, executive officers and principal shareholders of the Company, and certain of their affiliates, owned beneficially approximately 30% of the Company's outstanding Common Stock. Accordingly, these shareholders, individually and as a group, may be able to influence the outcome of shareholder votes, including votes concerning the election of directors, adopting or amending provisions in the Company's Articles of Incorporation and Bylaws and approving certain mergers or other similar transactions, such as sales of substantially all of the Company's assets. Such control by existing shareholders could have the effect of delaying, deferring or preventing a change in control of the Company. POSSIBLE VOLATILITY OF STOCK PRICE IN THE PUBLIC MARKET The securities markets have from time to time experienced significant price and volume fluctuations that may be unrelated to the operating performance of particular companies. The market prices of the common stock of many publicly traded medical device companies have in the past been, and can in the future be expected to be, especially volatile. Announcements of technological innovations or new products by the Company or its competitors, developments or disputes concerning patents or proprietary rights, regulatory developments and economic and other external factors, as well as period-to-period fluctuations in the Company's financial results, may have a significant impact on the market price of the Common Stock. Sales of Common Stock in the public market could adversely affect prevailing market prices. POSSIBLE ISSUANCES OF PREFERRED STOCK; ANTI-TAKEOVER EFFECT OF MINNESOTA LAW The Board of Directors has authority to issue up to 5,000,000 shares of preferred stock and to fix the rights, preferences, privileges and restrictions, including voting rights, of those shares without any further vote or action by the shareholders. The rights of the holders of Common Stock will be subject to, and may be adversely affected by, the rights of the holders of any preferred stock that may be issued in the future. The issuance of preferred stock could have the effect of delaying, deferring or preventing a change in control of the Company. In addition, certain provisions of Minnesota law applicable to the Company could have the effect of discouraging certain attempts to acquire the Company which could deprive the Company's shareholders of opportunities to sell their shares of Common Stock at prices higher than prevailing market prices. -----END PRIVACY-ENHANCED MESSAGE-----